It Looks Like Europe Will Do The Unthinkable To Banker Bonuses
Ed Callow [ torquespeak ] via www.flickr.com creative commons
LUXURY-CAR dealers in London and posh estate agents in Paris must be spluttering. It looks increasingly likely that demands by the European Parliament for a limit on
That limit may yet be watered down in negotiations between the parliament and the EU Council, which consists of European governments. But the principle of a specified cap seems to have been accepted, despite opposition from Britain. Other European governments are keener to ensure new capital rules get passed--the
The logic of capping bonuses looks appealing. Lavish payouts may create an asymmetric bet for bankers. If they take a big gamble that pays off, they get a huge bonus. If it goes horribly wrong, they face only limited downside. Sony Kapoor, a former banker who now runs Re-Define, a think-tank, says the cap will "help tackle the culture of excessive risk-taking and the bending of rules that has now become endemic to banking".
In fact, there is surprisingly little evidence to show that big cash bonuses lead to increased risk-taking or that capping the ratio of bonus to basic pay would reduce it. Rather, a cap on variable pay risks driving up fixed salaries as European banks seek to compete for talent with foreign and non-bank rivals.
A higher fixed-cost base would weaken the link between pay and performance. It would also limit banks' ability to cut costs in a downturn. Pay has come down sharply since the financial crisis, partly because higher capital ratios have reduced the profitability of banks. CEBR, a consultancy, reckons that the total bonus pool paid out to London-based bankers in the current pay round will fall to about £1.6 billion ($2.5 billion), down from a peak of £11.6 billion in 2008. That sort of flexibility is useful if you want banks to preserve capital in a crisis.
Bankers also argue that a lot has been done to pay structures to align the interests of employees and shareholders. The deferred portion of bonuses is much bigger than it was; this money can be "clawed back" if the bank subsequently does badly. Some firms are rewarding employees with subordinated debt in their own institutions, meaning they will take a hit if the bank goes bust. Unsurprisingly, the politicians in Brussels are paying little attention.
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