In 2008, the financial community was dealt a catastrophic blow by the collapse of Bear Stearns and Lehman Brothers, and the near-collapse of other Wall Street stalwarts including Merrill Lynch, Morgan Stanley and Goldman Sachs. Since 2008, the reputation of the financial community has been steadily eroded further with one scandal after another, building upon the sub-prime crisis and culminating recently with ongoing accusations and fines for LIBOR and forex rate fixing.
Few bankers would argue against the fact that the behaviour of financial institutions has shone a light on some unnecessarily bad practices. Lloyd Blankfein, CEO of Goldman Sachs, commented earlier this year: "It's going to be a long time before most people in the world are in love with bankers, but that is not going to stop us from working hard to be a better institution". Mr Blankfein is probably correct, and there is a significant amount of effort required to rebuild public trust in financial institutions. Bankers, however, never expected the world to be in love with them. Equally, they find it unpalatable that the world continues to hate them.
Bankers can certainly be accused of being in love with themselves sometimes, and the allure of a career in investment banking as glamorous and sexy remains as investment banks on Wall Street and in the City of London continue to receive record numbers of applications. Veteran investment bankers are, however, more wary now of admitting to their profession at a dinner party. They are the new estate agents at a drinks reception. In general, bankers expected to be left alone to do their jobs, earn their crust, and carry on with their lives. For the most part, this is precisely what they do and did. It is a small number of bankers, most of whom are no longer operational within the industry, who brought the financial community into disrepute in recent years, yet everyone is tarred with the same brush.
The press has a great deal for which to answer. Every time a major financial institution releases results, the press finds a new way to attack the management and the pay, with little distinction in relation to banks which have received bailouts from the taxpayer or otherwise, or the number of people within an institution for whom the multi-million dollar bonuses are relevant. The press tends to report selectively on the issues facing financial institutions, and the backdrop against which decisions are made in relation to executive remuneration. Let's take two examples:
1. Barclays: executive remuneration is criticised because it is excessive even in the face of declining profits. Barclays was never a recipient of a taxpayer bailout, and is therefore answerable only to its shareholders. The structure of executive pay has been altered substantially since the crisis, with significant proportions of bonuses deferred as long-term stock participation in the firm, thereby aligning the interests of shareholders and executives.
2. RBS: clearly a different case from Barclays, as a recipient of monstrous state aid. Since 2008, however, RBS has changed dramatically. Its balance sheet has shrunk by £1tn of assets, while headcount has been reduced by more than 40,000, and the bank has pulled out of 26 countries and scaled back its wholesale activities. The focus of the press, despite all of the aforementioned progress, is on the bonus pool for 2013/2014 which was £576m against losses of £8.2bn. Optically, any remuneration in a year that generates losses may look as though the financial industry continues to reward for failure. There is a strong counter-argument, however, that a financial institution that was as severely distressed as RBS, needs to be led back to health by the strongest possible management team. In order to attract the strongest team, it must be paid competitively. These executives could attract job offers from multiple other sources that would, arguably, be less challenging. Ultimately, if the taxpayer is to recoup its investment in RBS, it is critical that the best professionals are selected for the job.
One of the recurring arguments in this debate is that the existence, structure and culture of bonuses encourages bankers to take excessive risks. Increased regulation has sought to address these concerns with the implementation of measures such as the EU bonus cap, which prevents the payment of bonuses of more than 100% of fixed pay unless a bank has shareholder approval to increase the level to 200%. The response of financial institutions is to create new remunerative structures in order to ensure they are competitive in the global marketplace and able to hire and retain the best people. These approaches include increasing basic salary or, in the case of HSBC, for example, bolstering base salaries with "fixed pay allowances". Whilst this reduces the pot of cash that is labelled "bonus pool", which proves so emotive in Britain's press, an increase to base salary or a reliance on fixed pay allowances is an optical illusion, moving cash from one pot to another, ultimately ending up in the same place, but fundamentally reducing the flexibility of banks to cut costs quickly in the event of a crisis which the bonus structure delivered. An allowance payment or an increased basic salary has to be automatic so incentivisation and discretionary rewards are reduced. Unlike bonuses, there is no chance of a bank being able to clawback these payments in the event of a crisis.
Make no mistake, bankers earn a significant amount of money, certainly substantially more than an average man on the street. They also work absurdly long hours and make significant personal sacrifices in terms of travelling, working weekends and missing family occasions such as birthdays or Christmas. They don't expect anyone to feel sorry for them; that is part of the job. In the post-financial crisis world, the earning potential of an investment banker is significantly less as there is more regulation, arguably less dealflow, as well as increased remuneration in stock. Again, they do not expect sympathy; it is their choice.
The press and the public need to be cognisant of perpetuating the backlash against bankers. The ever increasing burden of regulation for financial institutions and restrictions on remuneration mask inherent risks:
- If London and Europe continue to be hostile lands for bankers and banks, the best people will choose to leave and seek employment in more benign geographies and industries. This will not benefit the taxpayer, the country or the financial institutions which continue to face challenges in recovering from the crisis
- The response of regulators to continued public outrage at banker pay threatens to create precisely the situation that the regulations seek to avoid: locking financial institutions into an inescapable cycle of excessive pay through fixed salaries, with no risk adjustment aligned to performance and zero discretionary element.
It is time to stop the emotional backlash to the financial community, and move towards the future with a more pragmatic approach that actually addresses the underlying issues and risks.
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