Thursday 18 February 2010

Bank Bonuses: A Necessary Evil?

RBS: paid out £1 billion bonuses; Barclays: £1.5 billion cash bonuses, £2.7 billion investment bonuses; Goldman Sachs: paid its chief executive $67.4 million in bonuses; J.P. Morgan: paid out $9.7 billion bonuses around the world.

Despite Gordon brown’s pledge to impose a 50% tax on banks that paid out bonuses last year, the bonus culture is still in place. People are in support of the idea of a tax as banks should be liable to pay insurance to the government if they want to be bailed out. Yet, despite this tax, banks have ignored this policy and have continued to hand out huge lump sums to their elite. Even, RBS, who had to be rescued by the government due to its gambles in the market leading to its nationalisation, has paid more than a £1 billion as bonuses to its staff, in a year where the banks and the economy are supposed to have suffered a financial meltdown.

Banks call them performance related pay, paid out when the firm has had a profitable year. To the ordinary public, the year when the UK went into recession in 2008 till the time when it was still engrossed in it in 2009, would not be called a ‘profitable’ year, especially not for the bankers, whom everyone has blamed for the worst credit crunch sine the 1930s. Moreover, these banks and firms have needed the tax-payers’ money to survive in the first place, and it seems as if they are just handing them out to their staff, almost as if to pat them on their back for their devastating work, encouraging them to take even more risks.

Yet head of banks insist that political and business successes are two separate things and where business is concerned, 2009 has indeed been profitable for the bankers (producing an average annual return of 3%), and the reason for this has been the role of the essential top performers, who were being paid for "effective risk management". The financial sector is indeed a competitive industry, and it is difficult to retain key performers, unless you entice them with a big fat bonus, which seems mind blowing to the ordinary person. Some executives, even for the RBS, use the threat of resignation, if they are not paid an ongoing market rate, making these bonuses essential for a bank’s success as well as for keeping their staff motivated.

As we can see, bonuses are indeed a necessary evil in the financial world; however, this does not mean that nothing can be done about using them in a positive manner. The imposition of the bonus tax has had little effect on the pay banks give, which shows that there is need for another way to re-introduce moral hazard into banking, to ensure that the gambling culture will start to fade within the banks.

The credit crunch showed the big banks that there is no way the government would not bail them out, no matter the circumstances, which is why the chief executives of banks can do anything spectacularly stupid knowing that they are safe. The threat of being sacked is not enough thanks to the amount of the bonuses, meaning they would never need to work again. Therefore, a solution to their attitude could be to give the executives a sufficient wage, and pay them their bonuses after they retire as a pension fund, only after ensuring that they haven’t put their firms at unnecessary risk or caused a major meltdown. This will remove the comfort zone that they currently have and will ensure that they keep their tail between their legs. Only then can we ensure that banking does not remain a casino run for the benefit of bank executives.