January 28, 2008
To curb mayhem, curb bankers’ pay
Maybe it’s time for bankers to pay for their bad bets, says Eduardo Porter in The New York Times. Every few years, their “appetite for risky assets” leads to a financial blow-up that causes “economic mayhem” that devastates shareholders. “Wily” bankers, hungry for “an otherworldly bonus,” will find ways to skirt even the “most carefully written regulatory limits,” so it makes more sense to give them incentives to “consider the long-term consequences.” Bankers could be paid in “restricted stock that vested over several years,” for example, or “a big chunk” of their salary could be held in escrow. Risk isn’t so fun if it’s your own paycheck on the line.
That might explain why hedge funds are doing a better job of “stabilizing” the markets, says Sebastian Mallaby in The Washington Post. Unlike bankers, “hedge-fund managers typically have skin in the game”—they bet their own wealth alongside that of their clients. So if we call Wall Street to task, we need to distinguish between the “constructive” and “dangerous” capitalists. It is “wrong” to blame the risk-diversifying “slicing and dicing of mortgages,” “a digression” to blame the credit-rating agencies, and “fruitless” to blame “leverage.” To avoid future “turmoil,” banks have to change their “perverse incentives,” and their shareholders need to make them.
of The Week magazine.