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12 March 2014

Bonuses.....and Shareholders



Hurrah for the Eurocrats! Haven’t they done such a good job in putting forward a cap on banker bonuses? That’ll make everything better. Well, actually, perhaps it won’t. Perhaps – whisper it – they’re showing that their experience in the commercial world is sadly limited and their own little universe of state-funded bureaucracy leaves their understanding looking a tad inadequate. The reason some areas of business – some industries, if you want to call them that – have developed a bonus culture is that they exist in a world where corporate earnings are subject to big swings; controlling fixed costs in that environment is very important, because if your fixed costs are reflective of a good year, then they will be hard to handle in a bad year, with a commensurate increased risk of default. So, how to get round that? Easy – make salary costs, which are a big part of the overall cost of financial institutions, flexible; they go up in a good year and down in a bad one. If there is a cap put on the flexible element, then it’s not difficult to imagine what will happen. The fixed part will be increased, thus potentially destabilising the company. And make no mistake – it is happening. Some banks are increasing – even doubling – basic salaries, some are paying fixed ‘allowances’, which count as part of salary and are therefore not to be capped, and I’m sure there are plenty of other innovative schemes. (And, incidentally, for those who cry for the bonuses to be subject to extra taxes, if you create this kind of an environment, you’re not going to see the extra tax.)

Flawed Logic

It would be naïve to suggest that the banks’ management have got it all right, though. We’ve heard the constant refrain – when reporting losses and yet maintaining bonus pool levels – that to expect certain people to accept lesser bonuses would simply invite disaster, as they jetted out to a new life in Singapore or Dubai. I have a bit of difficulty with that one – sure, we all regret losing ‘good’ staff, but there are two points. One, the corporations are making losses – that’s why the discussion is being had in the first place; and two, frankly, this stuff is not so achingly difficult that anybody is irreplaceable.

So we’ve got the bureaucrats slapping on caps and the bankers finding ways around those caps, and between the two of them what they are doing is to start building yet greater instability into the system. It’s about as useful as fools arguing with idiots.

Politicians...and Marxism

And then, as well as all that, we have the partisan politicians (as opposed to the – apparently – non-partisan Eurocracy). Here it gets really interesting, because things aren’t as they seem. The political left are vocal in their criticism of this kind of remuneration – that’s why they want to see it stopped. Yet think about it. The profits of an enterprise can legitimately go to three places; labour (the workforce), capital (the shareholders) or – sadly – the taxman. As things are, with big bonuses, fixed allowances or increased salaries, more is going to labour than to capital. The poor old shareholders are getting a rough deal while the workers are taking the lion’s share of the benefits. Sounds like Marxism to me, rewarding labour above capital (The taxman, aka the state, always gets his share anyway.)

Levity aside, though, I think this gets to the heart of how to solve the issue. And it is a genuine problem, not just whipped up by the popular press, where what is nominally performance-related pay is being handed out – sometimes – without the performance actually being anything more than adequate (and perhaps not even that). Where we are is that the politicians, regulators and bureaucrats want to solve the problem by regulation and special taxes, and the managements of the banks seem to refuse to acknowledge that ‘performance related pay’ should actually be related to performance (shouldn’t really be too difficult to grasp that one).

Shareholders' Responsibilities

The other group who should be in a position to exert some sort of control over this are the ultimate owners of the business – the shareholders. They are the ones who have seen their income cut as dividend payments have been reduced and in some cases – Lloyds Bank for example, which before the financial crisis was one of the strongest dividend payers in the FTSE – stopped altogether for the foreseeable future, while bonus pools remain healthy. Regulation by politicians or bureaucrats is, I suggest, very unlikely to be worthwhile, not least because the gulf in understanding between the two sides is, despite the protestations by both, just too wide. Self-regulation does not seem to be working too well, either. Shareholders, by refusing to back boards who simply look after themselves, are the only ones who have the power, if they would only use it, to re-balance things so that capital once again gains its income and labour is well rewarded when it performs, but not when it doesn’t. 

Up until now, with a few honourable exceptions, shareholders have been complicit, by not taking the responsibility they could. Until they do take that responsibility, we’re going to continue to see the other stakeholders blundering around, making things worse as often as not and polarising and politicising the whole issue.

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