Wells Fargo fallout

Editor’s note: The following article is from the Oct. 29 issue of WORLD Magazine. Right after the issue went to press on Wednesday, Oct. 12, Wells Fargo announced that CEO John Stumpf was retiring effective immediately and relinquishing his title as chairman and that COO Tim Sloan will become CEO and Stephen Sanger will serve as the board’s non-executive chairman.

Anyone with a Wells Fargo checking account may be wondering if he has two or three hidden accounts as well. Wells Fargo prides itself on “cross-selling” its services—persuading customers who open a checking account to use Wells Fargo for their mortgage or credit card, too. Employees of the bank got carried away, apparently because their jobs and bonuses depended on it, and created up to 2 million unauthorized accounts for unsuspecting Wells Fargo customers.

Who needs Russian hackers when your own bank is engaging in identity theft?

Now the question is what the consequences should be. Wells Fargo has agreed to pay $185 million in fines, although its defenders point out that the actual cost of this outrageous behavior was far smaller than breathless media coverage suggests: Most of the fake accounts were quickly closed before the victims were saddled with any mystery fees. The bank’s settlement with the Consumer Financial Protection Bureau has included only $2.6 million in refunds for improper fees—a trivial amount for a large bank with 40 million retail customers.

What isn’t trivial is the loss of trust. Wells Fargo had been the most financially conservative and widely admired of the big banks. It stayed away from fancy financial contracts and other excesses during the real estate bubble and was financially healthy even during the Great Recession. Of all the big banks, it seemed least likely to engage in shenanigans. The public perception of Wells Fargo has now radically changed.

In Japan, there’s a simple script for a company embroiled in a scandal like this one: The chief executive issues a public apology, then resigns, as did Toshiba’s chief executive after an accounting scandal last year.

In the United States, we do things differently. The Wells Fargo board plans to claw back $41 million of stock that bank CEO John Stumpf was scheduled to receive. But Stumpf isn’t resigning, and his board probably won’t force him out.

Stumpf’s punishment may seem like a slap on the wrist—and there’s certainly much to be said for the Japanese approach—but in this case a slap is just about right. Normal market forces will take care of the rest. The market will batter Wells Fargo until the bank manages to restore its good reputation, much like the market battered Chipotle after the wave of food poisoning cases.

The real risk is that regulators won’t simply let the market provide the discipline the wayward bank needs. Regulators often use scandals to impose rules they couldn’t push through otherwise, a tendency Yale law professor Roberta Romano calls “quack corporate governance.” Because Stumpf serves as both chief executive and chairman of Wells Fargo’s board of directors, federal regulators may be tempted to seek a prohibition on the same person serving in both roles. Although having a separate board chair may be good for some companies, it’s probably unnecessary for others, and it has nothing to do with Wells Fargo’s current misdeeds.

The other regulatory risk is more subtle. Because Wells Fargo has been weakened by the scandal, the government will have unusual leverage over the bank for the foreseeable future. If regulators threaten to open a new investigation, they could cripple Wells Fargo’s efforts to restore its reputation. Wells Fargo will therefore find it very difficult to resist subtle suggestions from the Obama administration that it devote more of its lending to favored industries—renewable energy, for instance—and that it steer clear of disfavored industries like oil and coal.

Wells Fargo has rightly suffered for the outrageous behavior of thousands of its employees. Regrettably, the scandal could tempt regulators to punish the rest of us as well.