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If there is one thing that bankers like, it’s giving themselves titles that make them sound more of a baller than they actually are. So Goldman Sachs has “Partners” who aren’t members of any partnership, while every other investment bank has “Managing Directors” who aren’t on the board of a company and in many cases don’t manage anything. A bank’s “Vice Presidents” are considerably further than a heartbeat from the presidency. I once worked for a brokerage where the highest rank was “Board Director”, seemingly in order to remind all of us ordinary Directors that we weren’t fooling anybody.
Weirdly, regulators play along with these status games. The EU has rules for identifying “Material Risk Takers”, who are subject to more strict regulation of their compensation arrangements. But they’re quite widely drawn – basically, if you earn more than €500,000 then you are deemed to be one unless your employer can demonstrate otherwise. Most banks can’t be bothered making the effort, so the industry is full of twentysomething “Material Risk Takers” whose actual ability to take risks with the bank’s capital probably maxes out at clicking on a phishing link.
And now, the Bank of England is trying to reverse this title inflation; under its proposed new rules, only the top 0.3 per cent of earners at any firm will be deemed material risk takers, and even then, a bank will be able to exclude the ones who don’t really take risks at their own discretion rather than needing prior approval. It’s coupled with some warnings that this isn’t just meant to include high-rolling traders – the person who designs your risk management models is a risk taker, even if they don’t see themselves that way. But the main effect will be to drop a lot of little leaguers out of the category subject to the most draconian rules on bonus deferrals and clawbacks. And the proposed rule changes go further than this — even for genuine Material Risk Takers, the Bank of England now thinks that seven year deferral periods are a bit excessive, and has reduced them to something closer to global norms.
That’s good news for the bankers, but less so for the banks. (I have a bit of history here; at a very young age, I was involved in the earliest stages of bonus regulation, something for which I have apologised in the past and hereby do so again). The bonus deferral rules are one of the many financial regulations where the side effects are more important than the stated purpose.
The stated purpose is to align bankers’ incentives with the long term financial stability of the bank. It probably achieves this, but it’s not all that important a purpose. Bankers’ incentives are pretty well aligned anyway, as nobody really benefits from having an imploded employer on their CV. And incentives to risk taking aren’t really that important. It’s very rare for a bank to be blown up because someone took a load of risk intentionally; usually, they blow up because someone did a lot of business that they thought was safe when it wasn’t.
The acknowledged side effect of the deferral rules is that they give the bank a captive source of capital. When a financial disaster strikes, clawing back the deferred bonus pool is equivalent to a guaranteed rights issue, and depending on the business model this could be quite significant. This is unfortunately less of a support in practice than in theory – by the time things have got so bad that management are genuinely considering it as an option, they are probably too bad to be saved anyway.
But the really important side effect is that aggressive deferral and clawbacks act as sand in the gears of the labour market for bankers. If someone has five years’ worth of bonuses held up, they are that much more difficult and expensive to poach. This is bad news for banks that want to hire or grow rapidly, but great news for incumbents. It also tends, probably, to reduce price tension for banker salaries, particularly in bull markets.
Historically, London has been particularly draconian by global standards when it comes to deferral requirements. So loosening them is likely to make it a relatively more attractive labour market for employees, at the price of making it a bit more expensive for employers. The PRA consultation seems to recognise this — toward the end, during its cost/benefit analysis, they say that loosening the rules “will facilitate the movement of senior staff to the UK given that previous industry engagement identified this requirement as a significant deterrent to senior talent acquisition”.
Which might be true, but it’s an interesting view of the balance of power between labour and capital; one in which rainmakers are able to refuse to make job moves which might disadvantage them personally. The Bank of England appears to be making a bet that its competitiveness agenda is better satisfied by doing nice things for bankers than doing nice things for banks.
