Thursday, 1 May 2008

Mervyn King on pay

I should have covered this a couple of days ago, but comments from Mervyn King about the side effects of high pay that incentivises risk-taking must surely contribute to the growing sense that something's got to change in the financial system.

What he said was not particularly insightful, and has been said by many others recently:

Banks have come to realise in the recent crisis that they are paying the price for having designed compensation packages which provide incentives that are not, in the long run, in the interests of the banks themselves, and I would like to think that would change.

But it's the fact that such comments are coming from so far up the food chain these days that makes me think that something is up. The Governor's comments come shortly after Swiss giant UBS admitted that pay was part of the problem as it got burnt in the sub-prime related market. Its report to shareholders said that remuneration contributed to incentivising carry trades, provided asymetric risk/reward, and made employees focus on the short-term regardless of the long-term impact.

This is significant stuff as it really cuts away at the idea that the way to get people to do their best is to dump a big pile of cash in front of them. What the experience of the banks shows is that smart people will find a way to get the cash, even if it means damaging the organisation offering it. But if that's tha case in the financial sector, why do we assume that such an approach doesn't have similar effects in other boardrooms?

Even as comments like King's are being made, the attitude of most shareholders (read: fund managers) seems to be that any level of pay is OK, provided some effort is made to show some linkage to performance. As investors we delegate such authority to our appointed fund managers and let them get on with it, so we bear some responsibility for sending out precisely the wrong signals.

More broadly, what I really don't get is why the left - and Labour specifically - doesn't make more of this. Some sort of intervention of pay is both overdue and would help rally the troops. At at time when many people are having trouble distinguishing Labour from the Tories this could also help reinforce the dividing lines. We aren't talking about clobbering aspiring working families here, this is looking at people at the top who have been responsible for a lot of financial damage. What's the problem?

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