Oct 24, 2014

    New rules on bankers' pay have downside

    THE drive to impose tighter regulations on the banking industry is understandable. As the global economy still struggles to recover from the financial crisis, revelations of bankers manipulating just about every number that crosses their abacuses keep coming.

    However, some of the proposed rules have more to do with fear and revenge than making the banking industry work well.

    On Tuesday, HSBC Holdings chairman Douglas Flint, who pays attention to the way rules can have unintended consequences, made two observations that should give regulators pause.

    His first point was aimed at the suggestion that banks should defer their employees' bonuses for several years and, if need be, claw them back if they turn out to have been earned unfairly.

    Mr Flint pointed out that while this strategy helps protect against "excessive risk-taking", it also makes it almost impossible to recruit people from outside the banking industry.

    When you say to someone in the tech industry that you'd like him to join banks to help with cyberrisk, and say his money will be paid in seven years' time, it's an easy conversation - he would decline to consider it.

    I'm pretty sure most of us would howl with outrage if our employers suggested chipping our annual income into chunks to be distributed piecemeal in the coming years. And any company that did would swiftly fall off most people's list of places they'd like to work.

    A better way to regulate bonuses so that they don't incentivise short-term thinking and gambling is to make them more akin to royalty payments - by tailoring them to the transactions they're meant to reward.

    If it's a one-off trading profit in the currency market, the size of the bonus should reflect the risk that the trade might turn out to have gone wrong. If it's generated by an investment banking deal for which the benefits accrue gradually over years, then the bonus should pay out more slowly.

    Mr Flint's second point, made to a House of Lords' committee on financial affairs, concerns geographical jurisdiction. He said a bank headquartered in Europe finds itself hamstrung by the European Union in how it pays employees around the world.

    "I was disappointed to see it regulate remuneration globally," he said.

    The EU has moved faster than the authorities elsewhere to introduce rules constraining bonuses; it shouldn't follow that a bank such as HSBC can't compete with its rivals in Asia or the United States in choosing how to pay its staff.

    Regulators around the world need to move cooperatively, or financial firms will be tempted to follow their corporate tax-avoiding brethren in relocating their headquarters.