The Global Financial Crisis brought the economy to the brink of a full-blown collapse and bankers’ greed was one of the key reasons for that. An example of how regulators and the industry try to set better rules for financial institutions.
the Global Financial Crisis brought the economy to the brink of a full-blown collapse, lawmakers around the world identified the shortcomings of the financial system and its stakeholders. One cause for the crisis was the excessive risk-taking during the run-up and without doubt executive pay arrangements have contributed to an environment within which firms operated grew riskier due to asset bubbles generated by macro policies and global factors, and regulatory constraints on risk-taking and capital requirements were too lax.
Therefore, legislators got to work to analyse existing rules and tried to create a better framework. A decade has passed since the Global Financial Crisis of 2007/2008 and the progress in creating such new regulatory structures varies significantly between the different jurisdictions.
Generally, most jurisdictions have identified holes in their existing rules and attempted to address the inappropriate incentives through remuneration structures that involve deferred compensation. For instance, the UK’s FCA replaced the Approved Persons Regime for financial institutions in March 2016 with the Senior Managers and Certification Regime, which aims to hold those guilty of misconduct are held personally accountable in case of wrongdoings. Various European authorities like the EBA and ESMA have issued guidelines on remuneration requirements. And different US regulators have tried their hand at introducing new rules to reign in executive bonuses but with limited effect as last year’s average bonus payouts were somewhat worryingly close to pre-crisis levels on Wall Street.
The Germans were quick to amend their rulebook to address existing gaps and introduced new regulations to its Minimum Requirements for Risk Management for Banks (short MaRisk in german) in 2009 that also focused on remuneration policies. With additional amendments to the MaRisk in 2013 and 2017, the German regulator felt better prepared to keep the captains of its financial institutions in check.
At the same time, the industry itself has tried to give itself a set of rules to reduce the flaws in human nature. The Deutscher Corporate Governance Kodex (German Corporate Governance Code) presents essential statutory regulations for the management and supervision of German listed companies and contains, in the form of recommendations and suggestions, internationally and nationally acknowledged standards for good and responsible corporate governance.
Following a lengthy consultation that was subject to much criticism and bickering, a new version was approved and adopted in May 2019. A high level of detail and a strong integration with the German Stock Corporation Act are its key features. This is, for example, evidenced by the fact that the remuneration of members of the Management Board will have to be based on a remuneration system, which the annual shareholders’ meeting of a listed company decides on. Basic requirements such as the relation between fixed and variable remuneration as well as performance criteria for the achievement of variable remuneration are to be determined with a double limit on total remuneration. This means that the Supervisory Board sets a target total compensation and a maximum total remuneration for each member of the Executive Board. Remuneration should be commensurate with the performance and duties of the member of the Management Board, as well as the position of the company, and should be within the normal range.
On the other hand, the proportion of long-term variable remuneration should exceed that of short-term variable remuneration though this does not have to be exclusively in company shares. The new standards also envisage clawback clauses as a rule in executive contracts.
While the new DCGK has not yet come into force as the Commission will only submit the new DCGK for publication to the Federal Ministry of Justice after the revised Stock Corporation Act has come into force, which could require further amendments. Therefore, companies do not have to adjust their remuneration practices just yet, but might as well have a look to determine how much work needs to be done. But in light of the draft rules issued by the BIS, financial institutions probably are looking into this already.