Securitization and Compensation in Financial Institutions
EFA 2011 Stockholm Meetings Paper
60 Pages Posted: 12 Oct 2010 Last revised: 24 Jan 2014
Date Written: July 17, 2011
We analyze the interaction between financial institutions' internal compensation policy, the quality of loans, and their securitization decision. We also assess the case for requiring financial institutions to defer bonus pay so as to make incentives more commensurate with the longer-term risk of their transactions. While mandatory deferred compensation can improve the quality of loans, we also show when it has the opposite effect. We further analyze when mandatory deferred compensation can complement a policy that requires financial institutions to retain a minimum exposure to their originated loans, and we discuss the impact of a tax on short-term bonus pay. Generally, our modeling framework allows us to study the interaction of financial institutions' internal agency problems with the external agency problem that arises from securitization.
JEL Classification: G21, G28
Suggested Citation: Suggested Citation