Paul Lachine

How to Pay a Banker

It is now widely accepted that it is important to reward bankers for long-term results, because tying their compensation to short-term returns encourages them to take excessive risks. But tying executive payoffs to long-term results does not provide a complete answer to the challenge facing financial firms and regulators.

CAMBRIDGE – The United States’ Federal Reserve Board recently adopted a policy under which bank supervisors, the guardians of the financial system’s safety and soundness, would review the compensation structures of bank executives. Authorities elsewhere are considering or adopting similar programs. But what structures should regulators seek to encourage?

It is now widely accepted that it is important to reward bankers for long-term results. Rewarding bankers for short-term results, even when those results are subsequently reversed, produces incentives to take excessive risks.

But tying executive payoffs to long-term results does not provide a complete answer to the challenge facing firms and regulators. The question still remains: long-term results for whom?

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