Financial Regulatory Forum

ANALYSIS – UK bank bonus limits depend on global reforms

July 22, 2009

By Kirstin Ridley
LONDON, July 22 (Reuters) – Regulatory attempts to stamp out long-term guaranteed bank bonuses in Britain could founder unless they dovetail with global reforms to curb the return of a culture of risk-taking that has destabilised economies.

Analysts say that as markets recover, it makes more commercial sense for banks to use bonuses to lure top talent — rather than be forced into pushing up base salaries that are not linked to performance and cannot be cut as easily.

The latest “Dear CEO” letter by the UK Financial Services Authority (FSA) watchdog, which echoes French Finance Minister Christine Lagarde’s call to rein in guaranteed payments, follows talk of record bonuses at Goldman Sachs and other big banks in London.

But the FSA — which published its letter one day after the opposition Conservative Party vowed to dismantle the regulator if it wins next year’s general election, as expected — has little power over London branches of continental European banks.

“The FSA has acknowledged that its supervisory, and therefore enforcement, powers are limited…because European law reserves for the home state regulator (to take) responsibility for governance, systems and prudential matters such as this,” says Ben Kingsley, a partner at law firm Slaughter and May in London.

“This illustrates a fundamental problem for reformists of the regulatory regime in the UK: the effectiveness of these reforms will be undermined by jurisdictional arbitrage unless reforms are coordinated effectively at an international level.”

And experts say that despite the good intentions voiced by governments of the Group of 20 leading world economies, major jurisdictions will inevitably protect their own interests — as evident from a largely French-led clampdown on Anglo-Saxon hedge funds.

“The UK is doing things as it said it would. But if by doing this, business starts to exit the UK, what are we going to do about that?” asks Angela Knight, the chief executive of the British Bankers’ Association trade body.

“The international issues need to be addressed in an international way.”

GOLDEN HANDSHAKES
Banks tend to offer guaranteed bonuses as a recruitment tool to woo star performers who stand to lose payments already agreed with their former employers, and are unsurprisingly unwilling to discuss pay.

But just nine months after a credit crises triggered a near-collapse of the financial system, top bankers such as Sanaz Zaimi, who left Goldman Sachs for Bank of America Merrill Lynch  (BofA), Selim Toker, who left UBS for Nomura, and salesman Antonio Polverino, who switched from BofA to RBS, are believed to have secured multi-million dollar, multi-year guaranteed deals.

British and continental European regulators have said that bonuses should be linked to long-term profitability, with claw-back provisions, and threatened banks that fail to comply with the possibility of higher capital requirements.

Analysts, however, point out that guarateed bonuses not only compensate staff for the additional risk of moving — they also ensure performance is linked with remuneration. At the end of the bonus period if staff fail to perform, they lose the bonus.

“These businesses are people businesses. The value is in the individuals,” said one banking analyst. “Those individuals who do phenomenally well have almost certainly made their companies a lot more money than they have been paid.”

UNWRITTEN RULES
U.S. President Barack Obama’s administration’s white paper on financial regulatory reform is expected to introduce some oversight of bank remuneration and industry experts are keen to see whether how much this will harmonise with European efforts.

For its part, the FSA notes in its latest letter that guaranteed bonuses that run for more than one year “may be inconsistent” with effective risk management and has asked banks to send over their remuneration policies by the end of October.

But because the FSA is not expected to establish formal rules to curb “risky” remuneration practices until the end of the year, few expect any fines in the short term — although it could use its enforcement tools for breaches of principles.

“It may just be that they will try and put their mark on something they don’t really like,” said Sylvie Watts, a partner at Allen & Overy’s corporate governance group. “But I don’t imagine it’s something banks as employers really like, either.”

Analysts, however, say banks have started to raise base salaries in an effort to head off regulatory wrath about bonuses — a move some say lacks commercial sense.

“It is commercial madness, but because of political pressure, companies have been forced into paying higher base salaries to get rid of the word ‘bonus’,” said one analyst.

“A blind man on a galloping horse can see it’s much better for a company at the year end to have discretion over what the staff are being paid, rather than being compelled to pay them a higher base salary.”

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