October 5, 2022

Feds Finally Move To Restrict Excessive Bank Compensation And Risk

Bailout Funds Go To Bank Bonuses

Banks that lost billions of dollars on speculative  investments and poor loans have routinely been awarding thousands of employees massive bonus payments.  Ironically, the only reason many of these banks are still in business and able to pay bonuses is due to the fact that they were bailed out by the taxpayers via the TARP program.

It is difficult to understand the lack of sensitivity exhibited by the bank’s compensation committees considering the populist outrage and criticism by politicians from both parties.  Consider Bankers Reaped Lavish Bonuses During Bailouts:

Nine of the financial firms that were among the largest recipients of federal bailout money paid about 5,000 of their traders and bankers bonuses of more than $1 million apiece for 2008, according to a report released Thursday by Andrew M. Cuomo, the New York attorney general.

All told, the bonus pools at the nine banks that received bailout money was $32.6 billion, while those banks lost $81 billion.

Some compensation experts questioned whether the bonuses should have been paid at all while the banks were receiving government aid.

“There are some real ethical questions given the bailouts and the precariousness of so many of these financial institutions,” said Jesse M. Brill, an outspoken pay critic who is the chairman of CompensationStandards.com, a research firm in California. “It’s troublesome that the old ways are so ingrained that it is very hard for them to shed them.”

Private firms that risk private capital on high risk leveraged investments should be free to compensate themselves as they see fit.  Banks, on the other hand, have been playing a “heads I win, tails you lose” game, risking depositor money (guaranteed against loss by the FDIC), suffering no consequences for bad decisions and collecting lavish bonuses for horrendous results.  The issue of why banks are allowed to risk taxpayer money on speculative activities was recently raised by former Federal Reserve Chairman Paul Volcker – Volcker Seeks Bank Limits.

In his speech, Volcker urged limits on the activities of banks that are considered “too big to fail,” going beyond what other officials in the Obama administration have advocated.

“I do not think it reasonable that public money –taxpayer money — be indirectly available to support risk-prone capital market activities simply because they are housed within a commercial banking organization,” Volcker said.

“Extensive participation in the impersonal, transaction- oriented capital market does not seem to me an intrinsic part of commercial banking,” Volcker said. “Substantial involvement in heavily leveraged finance and heavy proprietary trading almost inevitably entails risks.”

“I want to question any presumption that the federal safety net, and financial support, will be extended beyond the traditional commercial banking community,” he said.

Paul Volcker was probably not the only one wondering why banks are operating outside traditional banking areas and risking taxpayer funds.  Volcker’s speech seemed to hint that regulators were belatedly preparing to restrict both bonus payments and unwarranted risk taking by the banking industry.  Following up on Volcker’s comments, the Federal Reserve today  proposed dramatic restrictions on both bonuses and risky investment activity by financial institutions.

Wall Street Journal – Policies that set the pay for tens of thousands of bank employees nationwide would require approval from the Federal Reserve as part of a far-reaching proposal to rein in risk-taking at financial institutions.

Under the proposal, the Fed could reject any compensation policies it believes encourage bank employees — from chief executives, to traders, to loan officers — to take too much risk.

The U.S.’s largest banks, about 25 in number, would get especially close scrutiny. The central bank intends to compare these banks as a group to see if any practices stand out as unusually dangerous to their firms.

The Fed itself believes it has the legal authority to take such action through its existing supervisory powers, which are designed to oversee a bank’s soundness.

Pay is now seen as a factor that could make a firm, and more broadly the financial system as a whole, vulnerable to collapse. The financial crisis turned up many examples of how pay can give employees incentives to take risks. One example: loan officers who churned out thousands of low-quality loans in order to claim annual bonuses for themselves.

In a Wednesday speech, Former Fed Chairman Paul A. Volcker noted that one of the causes of the financial crisis “was the ultimately explosive combination of compensation practices that provided enormous incentives to take risks” just as new financial innovations “seemed to offer assurance — falsely, as it has turned out — that those risks had been diffused.”

The policies would apply to banks regulated by the Fed, not savings-and-loans or state banks that are overseen by the Federal Deposit Insurance Corp.

Will Fed Proposals Prevent The Next Banking Crisis?

If the Fed believed it had the legal authority to restrict undue risky activity at financial institutions, the obvious questions is why were these rules not implemented before the banking system imploded?  Regulators constantly reacting to disasters after they occur does not instill a strong sense of confidence that new regulations will prevent the next crisis.

Paul Volcker’s New Assignment – Tax Collector

dollarIs This What Volcker Had In Mind?

Paul Volcker’s unexpected endorsement of Mr Obama for President last year gave the Obama campaign a huge boost of economic credibility.  Mr Volcker’s endorsement calmed the fears of many economic conservatives who were skeptical about the Obama economic agenda.

Lawrence Kudlow, a former Reagan economic advisor, viewed the surprise endorsement as a signal that a future Obama administration would be more fiscally conservative than previously believed.

This is an unbelievable story. Former Fed Chairman Paul Volcker — Mr. Hard Money, anti-deficit, sound financial himself — has endorsed Senator Obama for President.

This is a big deal.

Once upon a time, many years ago, I was a Volcker speechwriter at the New York Fed. He’s a great American. He’s a classic conservative. He’s a man of fiscal and monetary rectitude. While he was originally appointed Fed Chair by Jimmy Carter, Volcker ultimately teamed up with Ronald Reagan to put the kibosh on runaway inflation. He would not have made this endorsement on a whim.

Is Paul Volcker the new Robert Rubin? Is it possible that Mr. Volcker is somehow tutoring Obama? Is it possible that Obama is more financially conservative than originally believed?

In his endorsement of Mr Obama, Mr Volcker seemed to believe that he would be involved in a high level position to help solve the financial problems facing the United States.

Paul Volcker, February 2008

However, it is not the current turmoil in markets or the economic uncertainties that have impelled my decision. Rather, it is the breadth and depth of challenges that face our nation at home and abroad. Those challenges demand a new leadership and a fresh approach.

Mr. Obama’s remarks at a press conference in November 2008 also seemed to suggest that Mr. Volcker would have a pivotal role in engineering a turnaround of the American economy.

November 26, 2008 – Obama Press Conference

Today, I’m pleased to announce the formation of a new institution to help our economic team accomplish these goals: the President’s Economic Recovery Advisory Board.

The Board will be composed of distinguished individuals from diverse backgrounds outside of government —from business, labor, academia and other areas— who will bring to bear their wisdom and expertise on the formulation, implementation and evaluation of my Administration’s economic recovery plan.

I’m pleased to announce that this Board will be chaired by one of the world’s foremost economic policy experts, a former Chairman of the Federal Reserve, and one of my most trusted advisors, Paul Volcker.

Paul has been by my side throughout this campaign, providing a deep understanding of financial markets, extensive experience managing economic crises, and keen insight into the global nature of this particular crisis. Paul has served under both Republicans and Democrats and is held in the highest esteem for his sound and independent judgment. He has a long and distinguished record of service to our nation, and I am pleased that he has answered the call to serve once again.

World’s Foremost Economic Policy Expert Appointed To New Position – Chasing Tax Deadbeats

Today, Mr Volcker can add to illustrious resume the position of leading a task force to chase tax deadbeats.  This is probably not the role that Mr Volcker envisioned as Chairman of the Economic Recovery Advisory Board.

Volcker Panel To Study Tax Reform

WASHINGTON (Reuters) – A panel led by former Federal Reserve Chairman Paul Volcker will study options for U.S. tax reform

Peter Orszag, director of the White House’s Office of Management and Budget, said the panel would study tax simplification, tackling tax evasion, and reducing “corporate welfare.”

He said the board would look at streamlining U.S. tax credits and being more aggressive at bringing in some $300 billion in annual uncollected tax revenues.

Time To Move On

Mr Volcker’s acknowledged expertise is being wasted in a largely irrelevant and undignified position, given the dimensions of the financial problems confronting the United States.

Some advice Mr Volcker – it seems that you have served your purpose and will not have a real role in any major policy decisions.  Your distinguished background, expertise and wisdom are being wasted in your presently assigned position.  Answering your country’s call to service was admirable, but you need to watch what they do, not what they say.