Chief executive of banking regulator the Prudential Regulatory Authority (PRA) Andrew Bailey said in a speech last night that EU policy is wrong and that pay should be regulated to enforce appropriate risk taking by performance adjustment and deferral, but not the bonus cap.
"We need a system where senior people who are responsible for the performance of their firms understand that for a reasonable period of time a meaningful proportion of their remuneration is at risk of being taken away. There is nothing new about this," Bailey said. "Let me be blunt, the bonus cap is the wrong policy, the debate around it is misguided, and the best thing I can say about allowances is that they are a response to a bad policy."
Some banks are using 'role based allowances' (RBAs) in remuneration packages. These are linked to the seniority and levels of responsibility of the employee, but EU regulator the European Banking Authority (EBA) has said that the payments are in effect bonuses and are wrongly being used by banks to skirt bonus cap rules.
Under the EU's capital requirements directive (CRD IV), bankers' bonuses must not exceed 100% of their fixed remuneration in any given year, or 200% of salary with the agreement of shareholders.
It published an opinion that said that RBAs cannot count as fixed remuneration (3-page / 86KB PDF) and so should be counted as a bonus. The opinion follows an investigation the EBA conducted (10-page / 184KB PDF) into EU bankers' allowances
"The key issue raised by Andrew Bailey is that the bonus cap, instead of improving financial stability, may undermine it, and it is a point that others at the PRA have made in the past," said Graeme Standen, a share plans expert at Pinsent Masons, the law firm behind Out-Law.com. "In contrast, the stability-promoting effect of other requirements of the CRD IV remuneration provisions have both empirical support and are included in the applicable global standard which influences all major financial centres, the FSB Compensation Standards. These requirements are that variable remuneration should be partly paid in equity or other appropriate securities, and be subject to deferral, retention and clawback."
Standen said that a recent report by the International Monetary Fund (IMF) (see chapter three) found that many of the CRD IV requirements were effective, but that there was no evidence that bonus caps reduced risk-taking in banks.
"The large banks and their advisers will have been aware of the possibility of different interpretations of CRD IV and EU restrictions on role-based allowances," said share plans expert Matthew Findley of Pinsent Masons. "They will also have been aware of the EU Commission's public instructions to the EBA in March and September and the EBA investigation into role-based allowances, which required questioning of national regulators and relevant banks. They will have therefore started planning to deal with these developments as best they could. However, in reality, it seems little can be done to soften the impact of the bonus cap other than the attempted role-based allowances."
"The efforts taken by the banks to manage the bonus cap show clearly that they believe it is currently a serious commercial hindrance to them," said Findley.