Senior employees at U.K. banks may face a 10-year wait for bonuses under proposals put forward by a committee investigating the failures of the industry, which also recommended making “reckless” management of lenders a crime.
A “substantial part” of variable compensation for the highest earners at banks including Barclays Plc and HSBC Holdings Plc should be deferred for up to a decade to better align their interests with shareholders, the Parliamentary Commission on Banking Standards said in a statement today. Its proposal to introduce a criminal offence for mismanagement, which could see executives of failed firms facing jail time, was endorsed by Prime Minister David Cameron.
“The potential rewards for fleeting short-term success have sometimes been huge, but the penalties for failure, often manifest only later, have been much smaller or negligible,” the authors of the report said. “Banks should understand that many consider the levels of reward in recent years to have grown to grotesque levels at the most senior ranks.”
Pay reform is part of a program of sweeping change proposed by the commission, a cross-party group of lawmakers set up last year by Chancellor of the Exchequer George Osborne after a series of scandals and five years of poor returns for the financial industry. The report also called on the government to introduce a register for bankers and consider breaking up Royal Bank of Scotland Group Plc.
While some lawyers today criticized the potential criminal offense as unworkable in practice, Andrew Tyrie, the lawmaker who leads the committee, said the proposals are better than the plan adopted this year by the European Union over U.K. resistance. The EU aims to block banker bonuses of more than double fixed pay.
“We’re not trying to stop people earning a lot of money, but making sure that they’ve demonstrated that they’ve really earned it,” Tyrie, a member of Cameron’s Conservative Party, said in an interview this morning on BBC Radio 4. “Trust in banking has collapsed. We’ve got to restore it, not least because banking is essential for the British economy and the British economic revival as a whole.”
The committee didn’t call for a bonus cap because there’s evidence the EU plan is having a “perverse effect” and pushing up fixed pay, he said.
“Penalizing, including criminal penalties against bankers who behave irresponsibly, I say yes,” Cameron told lawmakers in the House of Commons in London today. On the question of clawing back bonuses, “I say yes too,” Cameron said.
The government welcomes the report and plans to respond by the summer Parliamentary recess, a Treasury spokesman said in an e-mailed statement. Jean-Christophe Gray, a spokesman for Cameron, told reporters in London today that the commission’s report was “an impressive piece of work.”
“The right thing to do is consider it in detail but consider it very swiftly as well,” Gray said.
Osborne will address senior financial figures on the recommendations and the future of state-controlled RBS and Lloyds Banking Group Plc in his speech at London’s Mansion House later today. He has sought to simultaneously defend London’s financial district from EU restraints, placate British voters and retain well-paid jobs amid speculation banks may be tempted to relocate some of their operations to New York, Hong Kong or Singapore for a lower tax and regulatory burden.
“This is the most significant report into banking for a generation,” British Bankers’ Association Chief Executive Officer Anthony Browne said in an e-mailed statement. “We want the U.K.’s banking industry to once again set the gold standard for professionalism and integrity. We look forward to working with government and regulators to take forward the constructive proposals contained in the report.”
Bank shares fell in London trading today. HSBC declined 1.5 percent at 12:12 p.m. local time, Lloyds and Standard Chartered Plc both fell 0.7 percent, and RBS declined 1.2 percent. Barclays dropped 0.4 percent.
Compensation should be deferred by up to 10 years to reflect the length of time it takes for profits and losses from banking transactions to be realized, the U.K. committee said. Banks should also be given the right to claw back pay after employees leave a firm, as wrongdoing can take several years to come to light, they said.
“Banking pay now feels as if it is caught in a pincer movement, with political and regulatory pressure suddenly now both addressing the same issues at the same time,” said Isabel Pooley, a lawyer at CMS Cameron McKenna LLP. “The 10-year deferral proposal is realistically just the start of further pay restrictions. Clawbacks of bonuses which have already been paid to employees can be difficult, including recovery of any tax already paid, so firms generally prefer to reduce unvested awards instead.”
The proposals go further than changes introduced by U.K. regulators after the financial crisis, which forced bankers to wait up to five years to get their bonuses.
“Deferral has a role to play in creating more sustainable pay practices, but too much focus on deferral is misguided,” said Tom Gosling, the head of the reward practice in London at consulting firm PricewaterhouseCoopers LLP. “It’s more important to focus on what people are getting paid for than how they are getting paid. With less deferral, it’s possible to pay people less in the first place.”
Payment in Bonds
Other suggestions by the commission include paying staff in bail-in bonds that convert into capital to absorb losses, leaving managers exposed to losses if their firm goes bust. Performance should be assessed using a range of measures rather than just return on equity, which creates “perverse incentives,” the committee said.
Unite, a labor union that represents 1.5 million workers in Britain and Ireland, said the proposals aren’t sufficient.
“Tinkering at the edges is not enough,” the union said in an e-mailed statement. “The difference between the pay of the highest and lowest paid in Britain’s biggest banks is completely unacceptable.”
Over more than 600 pages of recommendations, Tyrie and his committee said a culture of greed and short-termism opened the door to mis-selling and market manipulation scandals and created a deep rift between bankers and the rest of the population.
“The public are customers of the banks,” the committee said. “Taxpayers have bailed out the banks. The public have the sense that advantage has been taken of them, that bankers have received huge rewards, that some of those rewards have not been properly earned, and in some cases have been obtained through dishonesty, and that these huge rewards are excessive, bearing little or no relationship to the value of the work done.”
The committee recommended introducing an offence for “reckless misconduct” and potential prison time for bankers found responsible for the worst mismanagement, the first such sanctions. The offence would apply for the “most serious of failings, such as where a bank failed with substantial costs to the taxpayer, lasting consequences for the financial system, or serious harm to customers,” the report said.
“It seems extraordinarily difficult to imagine that an offence of reckless misconduct in the management of a bank will be successful,” Alistair Graham, a lawyer at Mayer Brown, said in an e-mail. “As a criminal offense, it will have to be proved beyond all reasonable doubt. The pressing question today is whether this is a significant step towards U.S.-style enforcement.”
The authors said they would like to see a register of senior bankers whose roles and responsibilities are clearly defined to avoid situations where executives claimed to have no knowledge of deals and decisions in their banks or said they were group decisions, thus avoiding blame for losses.
“One of the most dismal features of the banking industry to emerge from our evidence was the striking limitation on the sense of personal responsibility and accountability of the leaders within the industry for the widespread failings and abuses over which they presided,” said the report. “Ignorance was offered as the main excuse.”
The commission also asked the government to carry out a “detailed analysis” by September of the merits of hiving off the “bad bank” troubled assets of RBS, which is 81 percent government-owned. Splitting the lender may lead to “significant advantages” by “focusing the good bank on U.K. retail and commercial banking and, by freeing it from legacy problems, strengthening its ability to lend,” according to the lawmakers.
A split would make RBS “a more attractive investment proposition, which could subsequently be privatized at a good price,” the commission said.
The proposals were endorsed by Ed Balls, Osborne’s critic from the opposition Labour Party.
“This report sets out a radical blueprint for change on professional standards, regulation, competition, pay and accountability,” Balls, the shadow chancellor, said in an e-mailed statement. “It is vital that the government and the banks rise to the challenge.”