The publication yesterday by the Irish Financial Services Regulatory Authority (IFSRA) of its first report on AIB's failure to report the rate used on certain foreign exchange transactions with customers, and the associated overcharging by the bank of these customers, represents the start of a process that will reshape the landscape of Irish banking, writes Ray Kinsella

The IFSRA report will be followed by the publication of additional reports, notably relating to the Faldor offshore scheme, operated to benefit a group of senior bank management during the first half of the 1990s. The bank has already commissioned an independent report, overseen by the former comptroller and auditor general, on these issues.

Then there is the NIB report of the High Court inspectors (the Blaney-Grace report), appointed by the Department of Trade, Enterprise and Employment under the Companies Acts, to inquire into certain commercial practices involving mischarges and the sale of offshore insurance-based products that subverted tax requirements.

This has now been completed and will be published on Friday.

This series of reports will result in far-reaching changes in management practice, operational systems and in corporate culture. The issue of whether, and if so what, sanctions are applied is likely to attract attention. But more important over the longer term will be the specific criticisms that the individual reports make and their recommendations for changes. These will affect the whole culture of banking in the State.

The IFSRA report, published yesterday, details the nature and extent of overcharging, beginning with the foreign exchange charges debacle. Once an in-depth forensic investigation had begun, it was inevitable that additional examples of mischarging, albeit reflecting deficiencies in systems, would be identified.

The public, conscious of the successive examples of deficiencies, will understandably be cynical. At the same time, it would be wrong not to acknowledge the quality and depth of the response by AIB's board.

The scale, and voluntary nature of restitution to customers, the toughness and integrity of Dermot Gleeson and the obvious commitment by Michael Buckley to turn things around before his retirement next year were impressive.

A period of reflection is urgently needed when the reporting phase is completed - probably by early September, when the Dáil resumes sitting.

The Republic now has a wholly new model of regulation and enforcement within the banking and financial services sector encompassing not only IFSRA as the "lead regulator", but also the Department of Trade, Enterprise and Employment, Revenue, the Director of Corporate Enforcement as well as the Criminal Assets Bureau. This represents a wholly new dimension in terms of the environment within which banks operate and are regulated.

Against this background, the decision by the Oireachtas immediately before the recess to enact part two of the IFSRA legislation - which encompassed inter alia sanctions - was wrong. It made no sense whatsoever to enact legislation of such importance before the results of these authoritative reports became available.

The fact that the new legislation is not informed by the criticisms, responses and proposals contained in the reports is simply indefensible. It represents a lost opportunity for incorporating the lessons of what has been a major inflection point in the development of banking legislation, regulation and what constitutes "good practice".

There are now three "change forces" in play that will transform the culture and commercial practice of Irish banking. The first is the internal changes that have already taken place in all institutions, especially those under scrutiny. The second relates to the new statutory provisions and supervisory practices: more generally, to the principles-based mode of supervision at the heart of IFSRA. The third "change force" encompasses a much more informed set of customers, hardened by the impact of deficiencies within some banks, who can now avail of the benefits of a much more competitive environment.

The Irish banking system is of enormous economic importance, both to those who use it and to the wider economy. The single greatest challenge facing all of the key stakeholders is the need for the banks to win back legitimacy and trust in the eyes of consumers and of the wider public.

This will not be easy and it will be at the heart of what IFSRA almost certainly sees as a post-September "rehabilitative" phase. This restoration of legitimacy will hinge on whether or not banks have moved away from an obsession with maximising shareholder value to an ethics driven model encompassing a very different view of staff and, by extension, customers.

The short-term shareholder maximisation model has, in the Republic as in other countries, driven a stake through the heart of the legitimacy that the banks once enjoyed.

The core arguments of this model can be simplified to two propositions. The first relates to the internal cost of capital and the need to (re)allocate it accordingly. The second is the premise that costs (including, in particular, staff costs) have to be ruthlessly eliminated. The end-purpose is to continually maximise the value of the bank.

This is a superficial attraction. But it gets things the wrong way round. The whole process is directed to meeting the, literally, insatiable demands of shareholder institutions. It's not about engaging with the customer, except purely as a means to an end.

This business model generated perverse incentives and subverted the lives of staff. It created a culture in which the "legacy issues", that have now come back to haunt NIB and AIB, could flourish. It was never going to be sustainable.

A new business model has not been fully developed. But what is clear is that, while it may be initially at least top-heavy with compliance, its distinguishing characteristic is that it will be ethically driven. It will take as its starting point the fact that people - customers and staff - are at the heart of the model. In staff will be embedded the "knowledge equity" necessary to create sustainable value propositions and to engage with customers in an environment of trust. A process of culture change, across a number of dimensions, is now under way in AIB.

A divergence between the values that people live by behind their hall-door and those that are inculcated behind office doors creates an ethical black-hole at the very heart of the business model. Regulation and corporate governance is of little avail. There will be subversion of individuals and of good banking practice.

There is not much that the regulator can do about such a situation. It cannot enforce ethics. An ethical corporate culture, properly understood, involves, by its very nature, "obedience to the unenforceable".

There are now a number of key things that need to be done as we move towards a rehabilitative phase. These include:

1 Robust and transparent responses by the institutions to the criticisms raised in the reports, and which are additional to those that they have already undertaken. The response taken by the AIB board to the IFSRA report represents an encouraging start.

2 An ethically based business model, which would provide a bridge to IFSRA's principals-based regulatory regime. This will take longer and will require the active participation of pension funds and large institutional investors. But it is essential to regaining legitimacy in the eyes of consumers.

3 A more proactive role by the industry as a whole - that is by the Irish Bankers Federation. Such a role needs to focus on unambiguously promoting "best practice" right across the spectrum of member institutions while recognising that at least some of these institutions have long had ethically based principals as a corner-stone of their corporate philosophy.

4The Irish Bank Officials Association has a key role to play in a business model that is focused on maximising the contribution of staff to value creation and which can help restore staff morale and public trust.

5 The role of IFSRA is to continue to provide the even-handed leadership which can steer the Irish banking sector through this critical period and, equally important, into a rehabilitative phase, where the public, through IFSRA, can be sure that adequate controls and systems are in place and that there is a high-calibre board to oversee compliance with the spirit, as well as the letter, of the law.

6 Communication with customers and the public is central to getting the message across that all "legacy issues" have been dealt with; that internal controls are rigorous and preclude the possibility of mischarging and that a culture of compliance underpins an ethically driven Irish banking system.

This will be the topic of a landmark conference in UCD involving major banks and regulators, domestic as well as international, that will be held at the end of September in order to facilitate this process of communication in an open and independent forum.

Ray Kinsella is the director of the Centre for Insurance Studies and visiting professor of banking at the Institute of European Finance