The recent Global Financial Crisis was a cataclysmic event which shook the world economy. It also exposed several problems with the international financial and economic system, one of which is the excessively large bonuses that top bankers get each year, as part of their remuneration packages.

Many believe that the large bonuses that bankers enjoy encourage them to take excessive risk to the detriment of their banks. These bonuses, which are several times higher than the annual salaries of these top banking executives, are a common feature of the pay packages of top banking executives around the world to reward them for their performance. For example, the top earner of HSBC earned £7m last year, comprising a salary of £650,000 and a bonus of £6.35m.[1] Many people argue that these generous pay packages encourage these bankers to take excessive risks or even adopt illegal practices to boost their performance and portfolios. However, should any of those investments fail, the bank would stand to lose billions in income which can affect the stability of the bank and the economy.

A few high profile cases involving a few unscrupulous bankers who undertook reckless and illegal investments only served to enrage more people. In 2011, it emerged that Kweku Adoboli, a trader with the Swiss bank UBS, had undertaken a series of rogue trades on behalf of the bank and falsified records which resulted in losses of over $2 billion.[2] In 2012, JPMorgan Chase announced that it had lost $7.5 billion on transactions at its London branch.[3]

Former UBS banker Kweku Adoboli. Source: guardian.co.uk
Former UBS banker Kweku Adoboli. Source: guardian.co.uk

These cases prompted several governments to seek stricter oversight on banks. Recently, Swiss voters approved proposals to control bankers’ salaries, bonuses and severance pay in a referendum. Following the Swiss example, the European Union (EU) Parliament is also proposing similar measures.

The EU proposal
The EU Parliament proposes to cap the bonuses of bankers to 100% of their annual salaries, with a maximum of 200% if supported by at least two-thirds of their shareholders. This ruling will apply to all banks in the EU, including bankers from EU banks based outside of the Union. While this proposal has widespread political support across most of the EU, the United Kingdom and financial institutions were less enthusiastic.

United Kingdom (UK), with its capital London being one of the biggest financial centres in the world, is one of the few countries in the EU which are against the policy. UK and most banks expressed disapproval with the plan, and pointed out the deficiencies in the proposed bonus cap. They point out that a restriction on bonuses will only push banks to exploit loopholes in the ruling, which defeats the purpose of the legislation.

One of the ways to circumvent the ruling is to lower the bonuses entitled to the bankers and massively raise their salary, since the EU ruling does not restrict the salaries of bankers. This could instead encourage even more risk taking by irresponsible bankers. Most banks include in the terms of the bonuses for bankers’ a “claw back” mechanism, which allow them to ask the bankers to return any bonuses they have accrued if they were found to have committed any malpractices during their job. [4] In the wake of the interest rate rigging scandal by several banks in UK, Barclays has taken back £300 million in bonuses paid to their employees under such “claw back” provisions.[5]

Since the bankers are not obliged to return any of their salaries to the bank in a dispute, they might be emboldened engage in misconduct with the full knowledge that their money would be safe if their bonuses are lowered and salaries increased.

Furthermore, the legislation only covers countries within the EU. Other countries with a significant banking and finance industry, like Hong Kong, New York, and Singapore, are not planning to introduce any caps like the EU. There are concerns that the bonus cap would cause bankers to migrate to other cities to escape the EU ruling, to the detriment of the financial industry in EU.

Looking forward
The other EU members are unanimous in their support for the proposed bonus cap despite the vehement opposition by the George Osborne, the UK Chancellor of Exchequer. As such, the legislation is expected to be passed within the next few weeks by the EU Parliament. It remains to be seen if the unscrupulous behaviour of greedy bankers can be curbed by this bonus cap.

Thinking questions
  1. Should governments intervene to limit the bonuses of bankers, which is essentially a private matter between the bankers and their shareholders? Why?
  2. Do bankers deserve the large bonuses and comparatively high salaries which they enjoy?
  3. What are some concerns and factors which should be considered when determining the pay of bankers, or the pay of any other jobs?
  4. Other jurisdictions like New York and Singapore do not have any plans to introduce similar caps on bankers’ bonuses. Given the multinational nature of banking and finance, would the EU cap on bankers’ bonuses be effective?


[1] EU cap on bankers' bonuses is not going to fit
http://www.guardian.co.uk/business/nils-pratley-on-finance/2013/mar/05/eu-cap-banks-bonuses-will-not-fit
[2] Let's make good the $2.3bn loss, UBS investment banking chief tells his staff
http://www.guardian.co.uk/business/2011/sep/19/kweku-adoboli-ubs-rogue-trader
[3] JPMorgan’s Botched Trades May Generate $7.5 Billion Loss
http://www.bloomberg.com/news/2012-07-13/jpmorgan-s-botched-trades-may-generate-7-5-billion-loss.html
[4] UK isolated as EU backs bonus cap
http://www.ft.com/intl/cms/s/0/68ad7d72-8590-11e2-9ee3-00144feabdc0.html#axzz2NJ16rX4k
[5] Barclays claws back £300m in staff bonuses to meet shareholder demands
http://www.guardian.co.uk/business/2013/feb/27/barclays-claws-back-300m-bonuses