There is widespread recognition among policymakers and regulators that bank behavior, especially risk-taking, is influenced by the type of compensation paid to bank executives. Academic literature, however, is still grappling with this question, and it is not unfair to say that there is a dearth of evidence even about basic facts about how executive compensation has changed after the 2008 financial crisis as new rules were introduced. There is also lack of clarity about the relationship between bank executives’ compensation and performance, given the nature of banking. In the paper titled “How are Bankers Paid?” Benjamin Bennett, Radha Gopalan, and Anjan Thakor use comprehensive data to investigate the structure and evolution of bank compensation from 2006 through 2018. This is a very useful exercise to start establishing basic facts. Benjamin, Radha, and Anjan find a string of important results, which can be seen as different dimensions of the same question. First, the average bank CEO is paid less than the non-bank peer, but this effect is largely driven by the compensation of small bank CEOs, highlighting the relationship between size and compensation that can explain the attention grabbing articles in the popular press. Second, while bank CEO compensation declined during the crisis, it rapidly recovered and is now almost 25% higher than pre-crisis levels. Third, bank characteristics matter: besides size, banks with less non-performing loans, and with business models involving higher non-interest income and higher wholesale funding, pay their CEOs more. Fourth, bank compensation is sensitive to ROA and ROE but not to stock returns. Last, greater dependence of bank CEO compensation on short-term measures of bank performance is associated with higher tail risk. In an age of low rates and reaching for yield, these results can help frame better the one important issue in the debate on how to regulate bank’s risk-taking behavior.
Spotlight by Andrew Ellul
Photos courtesy of Benjamin Bennett, Radhakrishnan Gopalan, and Anjan Thakor