Yesterday morning, regulators released long-awaited rules that are focused on restricting how financial institutions can pay their top executives. The new limits on banker bonuses would make the highest-paid employees at the biggest banks wait for at least four years to receive parts of their annual pay. If these proposals are completed in the upcoming months, then banks would also have to reclaim bonuses from bankers who take risks that in turn lead to major financial losses.
This is in response to an uproar of criticism over Wall Street’s pay practices after the biggest American banks had to take government bailout money back in 2008. This public anger has been rekindled during the 2016 presidential campaign, pressuring regulators to put tighter restrictions on Wall Street. New rules on executive pay grew out of the Dodd-Frank Act of 2010, although it has since taken years to put this in practice. Although Obama has pushed regulators to complete them, in the waning hours of his administration time has been running out fast.
The structure of executive pay packages before the financial crisis was blamed for encouraging bankers to take unnecessary risks. Pay in some cases was set up in ways to motivate bankers to seek short-term gains even if their actions led to long-term losses. The new rules, however, will force many banks to withhold pay for longer than in the past in an effort to ensure that top employees can be held accountable for the longer-term consequences of their risk-taking. The proposals leave many financial firms, including large asset managers and hedge funds, shielded from the new restrictions because of how regulators defined who are subject to them. Young Wall Street workers have already been decamping for less regulated corners of finance and corporate America.
For those people and institutions subject to rules, these new restrictions are broadly in line with changes that many banks have already been making since the 2008 recession. For example, it’s already an industry standard to wait for three years to release stock-based bonuses, although new rules aim to push that to four years.
The regulators were supposed to propose the new rules within 90 days of Dodd-Frank’s passage. Rather, the regulatory agencies delivered a first draft of the rules in 2011, although that was widely criticized for being too weak. According to the previous draft, the largest banks had to hold back at least half of all incentive-based pay for three years; under the new proposals, the same banks will have to withhold 60 percent of that pay for four years. It also applies the limits to a broader set of “material risk-takers” at big banks as opposed to just top executives.
Across the pond in Britain, banks are now forced to hold back some pay for at least seven years. European countries have generally imposed stronger restrictions on executive compensation since the financial crisis, including some card caps on salary and bonuses. These new American rules would only apply to incentive-based compensation that varies according to the performance of the bank and the individual executive. Even without these rules, banks have faced pressure from regulators since the financial crisis to change how they pay their employees and make it more focused on long-term than short-term success.
Banks and other financial institutions have generally been cutting pay in recent years because of their lagging performance, and other parts of the Dodd-Frank legislation have limited their ability to take big risks and earn big profits that were common before the financial crisis. If you’d like to learn more, you can click here!