The focus is back on banker pay after it emerged that the chancellor, Kwasi Kwarteng, is considering scrapping the City bonus cap as part of the government’s wider pro-growth agenda.
What is the banker bonus cap?
The cap was introduced by the EU after the 2007-08 financial crisis. It was part of a set of regulations known as the Capital Requirements Directive that were meant to force the financial sector to insure itself against the kind of weaknesses that led to the crash and a raft of taxpayer bailouts.
The package, which came into force in 2014, included a rule that capped banker bonuses at two times their annual salaries. It covered bonuses in the form of both cash and shares.
Why was the cap introduced?
The banking sector’s bonus culture was blamed for encouraging short-term profits over longer-term stability in the lead-up to the financial crisis, with Lord Turner’s 2009 review into the crash saying bonuses may have encouraged bankers to take “excessive risks”.
Bankers were also accused of taking more cash out of businesses than shareholders, putting investors such as pension funds at a disadvantage.
The hope was that, with less of a banker’s pay riding on their performance, there would be less of an opportunity to incentivise risky behaviour.
Was there opposition to the cap at the time?
The UK strongly opposed the legislation, with the then chancellor, George Osborne, even attempting to overturn the bonus cap at the European court of justice.
Andrew Tyrie, the former chair of the Treasury committee, who also chaired the parliamentary commission on banking standards, said a cap would not necessarily promote higher standards, which instead required “fundamental reforms” that could include longer bonus deferrals and clawbacks.
The Bank of England was concerned the cap would lead to a rise in fixed salary costs and squeeze bank finances.
Others argued that a clampdown would damage City competitiveness and send bankers fleeing to rival hubs in New York, Zurich or Singapore, and that their salaries would be inflated to compensate for the cap on bonuses.
So did the bonus cap work?
It depends who you ask – and what they hoped it would achieve.
Executive pay packages that in some cases topped £10m at banks such as Lloyds and Barclays have decreased in recent years, and the kind of risky behaviour seen in the lead-up to the financial crisis has subsided.
However, some experts credit that shift to the combined impact of post-crisis reforms and the fact that banks such as Lloyds and RBS were slimmed down – and practically scrapped their investment banking divisions – after the crash.
Luke Hildyard, director of the High Pay Centre think tank, said it was hard to accurately measure the impact of the cap on pay levels. “Top bankers are still paid incredibly highly, but the increases are probably smaller than they would have been without the cap. And the bonus element, which potentially encourages risk taking, is also smaller,” he said.
Why is the chancellor considering a U-turn on the cap?
The change is apparently part of the government’s pro-growth agenda and is meant to make the UK a more competitive and attractive place to do business. It comes as the government floats plans to reunite the two City regulators after their post-crisis split and restore “competitiveness” as a secondary objective for UK regulators, despite economists warning it is an inappropriate throw-back to pre-crisis conditions.
While some argue the EU cap was a clunky and ineffective way to curb risk and pay, removing the cap will make little difference to where banks base their staff.
Put bluntly: if there is business to be had, banks will find a way to compensate workers, regardless of banking caps. Although it may benefit banks, which could more easily slash bonuses in fallow years, City headhunters say many employees actually prefer the stability of pay packaged with higher fixed salaries.
It is unlikely to lure back EU-based bankers, who were either relocated or hired locally to fulfil EU requirements after Brexit. That kind of change would more likely require the UK to revert to EU rules, so that it could continue exporting financial services throughout the bloc.
