A successful economy hinges on trust. Trade must be mutually advantageous the vast majority of the time, with buyer and seller both content. If we are cheated 1 per cent of the time, we are dismayed, but we write it off. If we are cheated 10 per cent of the time, we practise "defensive trade." We draft contracts carefully, seeking to anticipate every possible abuse.

In 2004, I wrote a piece in the Financial Analysts Journal on the distinction between moral ethics (doing only what is right) versus legal ethics (doing only what is allowed). In a very real sense, the credit bubble and its aftermath hinges on this conflict. Worse, we are going further down this path, at a prodigious pace.

In effect, we have collectively abandoned the moral principle of a determined intent to repay when we borrow. This holds true all over the world, though the US has arguably advanced situational ethics to high art. The consequences can be severe. The expedient of borrowing in order to consume is becoming endemic, at the corporate, household and public level.

Rob Arnott then provides a number of corporate, personal and government examples of what is legally ethical but which few of us would regard as morally ethical as defined above. Here is his government example:

Is it legal for a nation to incur large debts or commit to future entitlement programmes, off balance sheet, if the nation has no realistic prospects of honouring these obligations? Is it legal for a nation to carry expenses off-balance-sheet, as we do with pre-funding of Social Security and Medicare, when off-balance-sheet accounting has put company executives in jail? Is it legal for a nation to back the debts of government sponsored enterprises (such as Fannie Mae and Freddie Mac) with full faith and credit of the government, and carry those obligations off-balance sheet? Yes, all of these are legal.

All of these are legal choices. Are any of them ethical? I think not.

What does any of this have to do with investing? Plenty. Many articles in finance journals have demonstrated that companies with aggressive accounting (reported operating earnings routinely well in excess of cash flow), usually underperform; other studies demonstrate the same for companies with governance focused more on management interests than shareholder interests.

David Fuller's view At Fullermoney we have often said: "Governance is everything." An Archive Search (upper left, 5th item down) under those three words will produce 50 entries. A similar search on ethics will produce 23 entries.

I maintain that the credit and insolvency crisis which exploded with such costly consequences in 2008 was mainly due to declining ethical standards at government, corporate and personal levels. This is usually a top-down process.

None of us will ever be perfect and corruption is everywhere, as part of the human condition. Investors can use this as a behavioural tool, in assessing long-term investment opportunities. As with so many financial matters, it is the trend that counts.

You can test this yourself by asking two simple, related questions:

1. Over the last decade or more, which countries do you think have shown declining ethical standards, particularly at a governmental and corporate level?

2. Over the last decade or more, which countries do you think have shown improving ethical standards, particularly at a governmental and corporate level?

Not everyone will come up with the same answers but I would not be surprised if the countries on your list of declining ethical standards have underperformed those on your list of improving ethical standards.