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This research was supported by ESRC ES/H026029/1 with the assistance of Dr. Emmanuel Mourlon-Druol and Humanities in the European Research Area HERA.15.025, Uses of the Past in International Economic History.
The persistent vulnerability of major financial institutions to rogue trading is clear from the repeated episodes of this form of fraud, particularly since the globalization of the 1990s. This article examines a scandal from 1974, when Lloyds Bank suffered the largest loss to date of any British bank by a single speculator. It shows how the cozy relationship between bankers and their regulators that had developed behind capital controls and uncompetitive markets was challenged by the collapse of the pegged exchange-rate system, acceleration of international financial innovation, inflation, and a heady atmosphere of internationalization. Increased competition prompted aggressive expansion into new markets by managers inexperienced in assessing both market and operational risk and thus vulnerable to a mismatch between the norms of banking in Switzerland and those in the City of London.
By rogue trading we mean a particular type of operational failure that arises when a trader hides large losses from managers by illegally evading disclosure regulations. Several special characteristics distinguish rogue trading from other forms of fraud where the initial intention is to steal from the company or its customers.1First, it is revealed only when the losses reach a point where they can no longer be concealed, so it is difficult to gauge how prevalent this behavior is. Secondly, the motivation is not always primarily personal financial gain, but rather the protection of reputation, which raises issues about the norms of financial markets.
Rogue traders have been variously depicted as charismatic heroes, aberrations in an otherwise well-functioning market, and the products of systemic biases that promote or condone their actions.2The legal and economic literature focuses on internal supervisory and compliance mechanisms, while social or psychosocial perspectives focus on personal incentives for individual staff to achieve high profits. Given the probability of "successful" rogues creating profits by taking risks, incentives such as bonuses may encourage norms where some transgression of rules is acceptable. As Mark Wexler notes, "There has not been a case where a trader has been labelled a rogue when making money for the firm."3Rogue trading...