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Ethics Drives The Business Cycle


Unethical behavior is not illegal, but as it rises markets can turn south.

Ethics are also the chief defense of the capitalist system. When they are lost, capitalism loses.

A final word on Valeant.

To be a capitalist, you don't have to be ethical. Easter Weekend is a good time to be reminded of that.

You can believe, as Adam Smith and others of the Scottish Enlightenment did, that wealth will incline those who have it to support the common good. You can also believe, as Nietzsche did, that you're the only one who counts and to the devil with everyone else.

When politicians defend capitalism the message they try to deliver is the Smith one. But some investors and entrepreneurs firmly believe in the Nietzsche message and think those who make a lot of money are better than other people.

Ethics can inform the law, but ethics are not the law. Ethics are beliefs about proper behavior that can make law unnecessary. They are not socialism. They include concepts like the common good, noblesse oblige, and responsibility for families and community.

But business, like nature, is red in tooth and claw. The unethical businessperson can attain a short-term advantage over their fellows. If regulation can be manipulated, if the law can be perverted, the unscrupulous will rise.

When money is being lost, ethics can go out the window. Journalists are supposed to have ethical standards, but as the business model collapsed publishers pushed the boundaries, and employees followed suit. The need for page views drove out ethics, and publishers lost even the respect of the courts.

Ethics drive the business cycle. We saw it at Enron and at Worldcom. We saw it in the lead-up to the Great Recession. I think we're seeing it today at Valeant (VRX). A business model founded on rolling-up drug companies, eating their seed corn, manipulating patients with advertising, hiking prices and shipping the profits offshore is inherently unethical. It is not illegal. But it leads to behaviors, like the Philidor scandal, which can be.

As an investor, I can go for the last dollar, or decide there are no rules and should be none. I can go full-on Nietzsche while calling it Ayn Rand.

Or I can draw ethical boundaries, preferring not to invest in oil, investing only in "sustainable" businesses, defining the social good in any way I choose.

All investors face these questions. I won't pretend to be an entirely ethical investor, but when I find a company I've invested in to be behaving in a way I personally find scandalous, I sell it. There are always buyers and some just don't care for ethics, holding them in contempt.

That's why we have law and business cycles. Unethical behavior leads to illegal behavior, and even if the law is perverted so that the unethical claim they're ethical, there will always be a day of reckoning.

Pushing the boundaries of ethics, ignoring the pain unethical behavior can cause, can result in short-term profits. But it also leads to recession, it is dangerous to the public acceptance of democracy as well as capitalism, and when it's obvious someone is crossing a line I believe they need to be warned, sold, and ultimately shunned.

Feel free to disagree.

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.