Regulating Banking Bonuses in the European Union: A Case Study in Unintended Consequences

Abstract

On 27 February 2013, the European Union (EU) reached a provisional deal to limit the amount of bankers’ bonuses to the amount of fixed remuneration (i.e., a one-to-one ratio); the cap could be increased to 2:1 with the backing of a supermajority of shareholders. I demonstrate that the pending EU regulations restrictions will: (1) increase rather than decrease incentives for excessive risk taking; (2) result in significant increase in fixed remuneration; (3) reduce incentives to create value; (4) reduce the competitiveness of the EU banking sector; and (5) result in a general degradation in the quality of EU investment bankers, thereby decreasing access to capital and increasing the cost of capital in the European Union.

Keywords: Executive compensation, CEO pay, Banking Bonuses, Financial Crisis, Regulation, European Union

JEL Classification: G32, G34, G38, J33, M12, M52, N20