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Published January 28, 2008 at 11:24 AM
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 On the editorial page of Monday's New York Times, Eduardo Porter offers a short opinion piece on the banking crisis. After some preliminary throat-clearing about regulation, Porter decides that the real problem is compensation, going on to reprise a much-commented-upon argument by Martin Wolf in the Financial Times on Jan. 15, which in turn reprised an FT column by former IMF chief economist Raghuram Rajan.
Well, that's a shock; the Times could find a comp issue in a snowstorm. Senior bankers, suggests Porter, need to be compensated in a way that's "contingent on the long-term success of each banker's strategies." Well, OK, but is it that simple? Does everything revolve around pay? (Certainly, the trading problems at Societe Generale did not, since the alleged "rogue junior trader" only made $147,000 a year.) How would such a system be constructed? How would "long-term" be determined, and by whom? Given that banks are huge, complex institutions, with many different strategies unfolding at the same time, would CEOs get income streams from each strategy over the long term? Would they get paid for the fulfillment of strategy A after they were fired for the failure of strategy B? How do you balance one strategy against the next? If you change strategies -- flexibility being an important part of management presumeably -- do you need to rewrite the comp specs? And isn't there a disincentive for a CEO to change a strategy that's nearly complete -- but that has an uncertain future straight ahead? Isn't there an incentive to play all kinds of games at the end of a comp cycle? Indeed, as Porter correctly notes, "remuneration is a tricky terrain."
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And so is banking and bank regulation. Banking is risk; it's always been with us and the day it departs, it takes reward with it. True, the current crisis does suggest serious woes with risk management, and a failure of regulation, but playing with comp (particularly through "voluntary" regulation) gets nowhere near them. Porter reflects none of the underlying changes that have swept through banking -- what used to be called investment and commercial banking -- over the past few decades, a subject Vipal Monga dealt with in his cover story "Risk returns" in The Deal several weeks back. Porter does not wrestle with globalization, mounting complexity, the loss of accountability throughout the system, the increasing incoherence of a set of financial regulators designed for a radically different era. He does not acknowledge the pressures on publicly traded banking institutions. He makes the classic New York Times mistake: In his fixation on comp as a universal lever, he wants Messrs. O'Neal and Prince to return the "untold millions they made in all of those years when their banks were stuffing themselves with subprime loans." You can view the comp practices on Wall Street with a jaundiced eye and still see the illogic of that suggestion. Shareholders in the years of the subprime boom presumeably profited from those windfall profits; indeed they demanded growth. Should they, as the ultimate owners, return their ill-gotten gains, particularly if they sold at the top? Is he suggesting shareholders profit in up markets and get reparations in down? You can't have it both ways -- although there's a ton of hedge funds that would like to try.
We can all agree that the banking system has serious, pehaps structural, weaknesses, but maybe -- just maybe -- excessive comp is a symptom rather than the disease itself. Tricky terrain indeed. - Robert Teitelman
See Porters' column from The New York Times
See Wolff's column from the Financial Times
See Rajan's column from the Financial Times
See "Risk returns" from The Deal newsweekly
See Dealwatch: Banks, write-downs and the CEO shuffle
Comments
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Banker pay: the zombie issue that won't go away.
For my entrance to the rabbit hole--beware, it goes pretty deep--see the following:
The Pressure Room