Linking Executive Compensation to Retained Earnings – A Study of German Savings Banks

Abstract

Performance linked compensation for executives can incentivize effort and commitment but can also induce increased risk taking. The German savings bank associations RSGV and SVWL recommend their members to make executive compensation increase both in performance and in the stock of retained earnings. We use a unique public data set to analyze the relationships of retained earnings, executive compensation, risk and state level savings bank laws in German savings banks. We find that the recommendation of RSGV and SVWL provides a good fit to compensation data. However, we find a marginally significant negative relationship of equity ratios and executive compensation, which is especially strong for members of RSGV and SVWL. This is the opposite of what the recommendation suggests. Finally, we identify several properties of state level savings bank laws as further determinants of equity ratios.

Keywords: savings banks, executive board compensation, variable compensation, equity, risk taking

JEL Classification: M12, G21, G28