Three things to consider when it comes to executive compensation

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Concern over executive compensation has united heads of state, finance ministers, institutional investors, the popular press and financial institution leaders themselves, all of whom have expressed frustration (and, in some cases, outrage) over pay levels and bonuses in the banking industry.

Compensation, which few believe to be among the most important causes of the financial crisis, is nevertheless a lightning rod issue that galvanizes public support for broad scale bank reform.

Executive compensation truly finds itself at the intersection of risk governance, politics and public policy. Accordingly, bank boards will find it difficult to ignore the politics and public policy issues that swirl around their compensation decisions.

In this context, below are three things to consider.

1. Changes to compensation structures and oversight are well under way.
Bank boards have been proactively working to change their firms’ pay practices. Banks have adopted new structures to better link pay with risk- and capital-adjusted performance. Board oversight has been strengthened, with compensation committees conducting stress tests  and retaining more discretion over actual payouts. Risk professionals are also being drawn into evaluating the risk dimensions of pay.

2. The public debate over absolute levels of banker pay obscures complex issues.
The financial crisis has triggered considerable public anger over the levels of executive compensation. Politicians initially responded with calls to cap pay, but have since relented, and now most intend only to regulate pay structures. Executives acknowledge that in some instances, compensation has been too high, but they emphasize that it is an extremely complex issue that depends on a variety of factors, including each bank’s mix of businesses, the retention of top-performing talent and the ways in which individual companies allocate profit.

3. External stakeholders could have a major influence over the future of executive compensation.
In the future, key external stakeholders could have a major effect on pay practices and levels. There is a concern that regulatory involvement will be too detailed and uneven across borders and a worry that more investor influence will have unintended consequences.

Download “Banker compensation at a crossroads” for more information.

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