Professor Kuenzi parses the research: “There are many nuances in developing an ethical organization. Is it about an ethical culture, climate or practices? We break it down. We say that organizations have overall goals, and leaders are the ones that interpret or filter that.” She suggests that one vehicle is to have ethical leaders. Leaders must not only be moral managers, ie., good people themselves who have integrity, but also be moral leaders. In other words, they must also demonstrate and role model their capacity for ethics. “A major part or ethical leadership is helping employees mimic those ethical behaviors,” relays Kuenzi. “People also learn by what is rewarded, punished, and emphasized by the leader.” The research offers six different practices that portray the ethical organization. From these practices, an environment develops that leads to the ethical climate.

The authors find that when an ethical climate is in place, and people try to make decisions and take action, they tend to observe how that climate’s practices transfer in their surroundings. And if it is an ethical environment, they will hopefully use those observations to guide their behavior with positive actions and develop more trust of the leadership.

Often firms put ethical codes into place. Sometimes these codes of conduct are geared toward compliance-like measures to avoid punishment in the regulatory or legal realms. “You may receive fewer penalties when these guidelines are in place, but they can become a check-off box as opposed to creating a values-based organization, where people buy into the values,” states Kuenzi. “This is an important missing piece.” Managers can look to this model and see the where the breakdowns are. Are they hiring ethical people, and socializing them properly? Are leaders not talking about ethics when they make decisions. Where exactly do practices fall apart?

Honoring the Code

The consumer goods company Johnson and Johnson, with its 1980s Tylenol product recall, is a case that Kuenzi finds particularly insightful. The firm has a corporate credo, which they actually followed to the letter when the misfortune of product tampering occurred. In their credo, they have four main constituencies. Notably, Johnson and Johnson’s first responsibility is to the doctors, nurses and patients they serve. Kuenzi notes, “Most firms these days are putting first.”  When the firm faced the crisis, they returned to their credo. The leader in this case actually made decisions based on their policies, practices, and procedures that were in place. Kuenzi says that Johnson and Johnson is unique in this way, and returning to their credo for guidance served them in a positive way as they regained the lost market share from the recall crisis.

“When in crisis, credos and policies look good on the shelf, but in reality, are firms going to refer to them as Johnson and Johnson did?” Kuenzi asks. With the “bottom line” a priority for many firms, the answer looks unclear.Enron is an example in the opposite direction. They fell down because of the ethical climate. Kuenzi explains how Enron retained top MBAs and cut the bottom 50%; employees became cutthroat with each other as they vied for position. They were rewarded by keeping their jobs, and thus the climate, which this practice created, contributed to failure in the end. While management thought it was positive to keep the best, unintended consequences emerged. This is just one example of problem areas in Enron however. Kuenzi believes that companies are not necessarily trying to be unethical. But when people are taking short cuts or not disclosing information, and they are rewarded, the incentives become skewed in the unethical direction.

Kuenzi also cites the incentives inherent in mortgage loans being made to candidates that were not good credit risks surrounding the recent financial crisis. The people at top did not intend this to happen, Kuenzi believes. At Enron, many leaders did not even know there was an ethical issue. In the sense of being aware of the climate, “they weren’t even playing,” she states. “If you don’t have awareness, or see the issue, you don’t even get off the ground.”

In practice with theory

Indeed there are some bad characters that can tarnish a company’s name. According to the research, there’s more to the story however. The authors write: “We argue that such unethical acts are not solely because of a few bad apples, but rather cracks in the foundation of an organization’s ethical environment are a likely cause of wrongdoing.”

This research says leadership sets the tone and creates the practices that are implemented, which in turn allows an ethical climate to emerge. And then, from this ethical climate, employees or those down the line behave and act in a corresponding manner that completes the cycle. The authors’ “global ethical climate” refers to the holistic impression that individuals have regarding ethical policies, practices, and procedures within organizations, versus simply the focus on a specific ethical organizational practice. Unethical behavior arises when the climate has cracks; it manifests in the workplace as opposed to being a direct result of a single leader’s actions. The action is closer to the trading floor, so to speak.

The authors find a link between ethical climate and unethical behavior, and unethical behavior has been associated with negative outcomes such as increased lawsuits and decreased bottom-line outcomes, all reasons for an organization to track and maintain an ethical environment. Kuenzi explains, “The ethical leader sets the tone but if people in a department are cutting corners and getting rewarded, that has more impact on employees’ behavior than the leader’s words and actions. Employees often talk more to peers than their leader.”

Organizations can use the measure to assess their strengths and weaknesses in terms of the foundational ethical practices. For example, an organization may find that although its HR practices (e.g., recruitment, selection, orientating, training) support ethical decision making and behavior, employees are not held accountable or ever reprimanded for engaging in unethical behavior. Thus, they could maintain strong HR practices but also take steps to align their reward and punishment systems to encourage desired behavior and discourage unwelcomed conduct.

Leading not enough

“Ethical leadership isn’t enough,” argues Kuenzi. “Yes, we need to hire ethical leaders. But how do you translate that into practice?” She continues, “Leaders need to talk about ethics but they can’t preach. Training is ineffective if there is no transfer to the staff.” Make sure you are rewarding the right behavior, suggests Kuenzi. “You can reward behavior but be very specific so employees don’t link it to behaviors you do not want continued.” The consequences of not getting an ethical climate right have become very apparent. The ripple effect or fallout can be quite large when an organization falls as this historic economic downturn has proven.

The challenge of business ethics, says Kuenzi, is that we know it’s wrong to steal a million dollars. But how do you deal with the complexity of layoff choices and a manager having to break one’s word. The world of ethic in business reveals many nuances and in-between spaces.

The paper “Creating an Ethical Organizational Environment: How Ethical Leadership, Ethical Practices and Ethical Climate Help Reduce Unethical Behavior” is written by Maribeth Kuenzi of SMU Cox School of Business, David Mayer of University of Michigan and Rebecca Greenbaum of Oklahoma State University.

Written by Jennifer Warren.