Sunday 22 March 2009

Pay as evidence

I'm quite skeptical about the link between reward and behaviour in terms of executive remuneration. This is for a number of reasons. First, it seems unlikely that someone who is already very well-paid (an exec director of a FTSE100 company I mean here) is incentivised in a material way by even more money. They don't need it.

Second, it is very obvious that there is little linkage between what they get paid and their own performance. Usually bonuses, options etc are tied to some pretty basic share-based metrics. Yet clearly one individual cannot be held responsible for the performance of an entire business, there's no way they have control all the various factors that contribute to it. And I'm even less convinced that share price tells us anything useful about how well the board is doing.

Finally, I think most executive directors are pretty sure of themselves. I suspect that they are more prone than the man on the Clapham omnibus to personalise success ('what a great decision I made') and externalise failure ('it's a difficult trading environment for everyone'). Therefore they might also downplay the reason for not getting a bonus, rather than linking it to their own poor performance. (incidentally this might also explain why the 'apologies' provided by bank execs to the select committee hearings seemed so feeble - because they still can't personalise the failure, to them it's still the result of forces beyond their control).

As a result of all this, I'm not sold on the idea that remuneration was a driver of behaviour in this crisis in the way that is commonly thought. I'm not denying that bankers were aware they were going to make out like bandits in the short term and were already planning how to spend the money, but I'm less convinced that these incentives drove what they did in a straightforward 'billiard ball' model of causation.

Instead I wonder if performance-based pay served as a reinforcement mechanism. Bankers developed the internal narrative that they were in control of events, that they were uniquely talented, that they knew what they were doing. Each time they received a hefty bonus this was further evidence to confirm their personal narrative, and encourage their belief in their own rightness. And arguably this may have actually made the situation more dangerous than simple greed would have done, as the bankers became increasingly hubristic about their abilities, leading to excessive risk-taking. The reward didn't drive the behaviour, it appeared to confirm that the behaviour was right.

4 comments:

CharlieMcMenamin said...

I'm sure you're on the right track here. To believe otherwise would be to fall into the fallacy that people really are motivated by money and money alone. Or simply to reduce the complexity of how capitalism actually operates to a one dimensional account of mafia-like gangsterism.

But just because senior City Execs aren't gangsters doesn't mean they're not dangerous. They're Pprobably more dangerous than gangsters come to think of it...

Nick Drew said...

they still can't personalise the failure, to them it's still the result of forces beyond their control

the words 'Gordon' and 'Brown' also come to mind at this point

it's obviously a complex topic: one factor that is useful for future reform is that the motivation is in large part recognition-competitive

which (as armies prove) can be satisfied even for the ultra- competitive, by issuing medals, which is generally cheaper

of course, if you are rewarding the wrong behaviours ... which leads us to the real point: get 'em to do productive things ! - they'll do anything you direct them to, in order to be seen to be the most successful

Tom Powdrill said...

yep, I'm in the camp of Labour supporters who thinks that Gordo would do better to acknowledge some failures. I genuinely don't get teh argument against.

I also agree with you about the effect of pay as a status symbol. but what to replace it with?

in general from where I'm sitting the great expansion in exec pay has simply been a huge waste of money. I don't mean that in a very moralistic sense, it just hasn't actually done the job it was supposed to. yet the shareholder activist community doesn't yet seem willing to speak this rather obvious truth.

Nick Drew said...

you see, I think it has to a large extent done exactly what it was really intended to do, namely to align a lot of very aggressive and creative dealmakers with the interests of the people at the very top ... (not shareholders per se, although they may enjoy the ride for a while)

... which over the past several years, though not inevitably, has been to loot the place

I come back to the earlier point: these alpha-type dealmakers will do whatever it takes to come out on top. First-hand experience: I have been on a board that found our dealmakers bringing in overly-risky deals, so we embedded risk-management goals in their targets

and then they brought home cleverly risk-managed deals!

the psychology is actually as simple as what you need to control a rowdy pack of cub-scouts