The Financial Stability Board (FSB) hosted a round table on compensation practices to share experiences and lessons on the use of compensation tools to address misconduct in banks on 10 May 2016 and published a respective summary today. The round table considered the processes for governing and applying compensation and related risk management tools to help better identify, mitigate and redress misconduct risk. Participants also explored challenges related to use of current tools, including differences in their application among jurisdictions, and discussed the relative importance of compensation tools compared to other approaches to handling misconduct.
Senior executives responsible for risk and remuneration functions at 22 large internationally active banks and officials from the FSB Compensation Monitoring Contact Group (CMCG) participated in the round table. The CMCG is responsible for monitoring and reporting on national implementation of the Principles for Sound Compensation Practices and their Implementation Standards (Principles and Standards). This summary reflects the understanding of regulators who attended the round table concerning the main points raised in the discussion, which was conducted under Chatham House rules. It does not necessarily represent the views of authorities nor consensus views expressed by banks at the round table.
One high level takeaway from the round table was that compensation tools are just part of the toolkit used in reducing the risks of misconduct. Some banks advocated more (principle-based) dialogue between firms and supervisors on the full set of tools used to manage talent and culture with a focus on promoting good behaviors, including via the effective use of compensation tools, enhancing individual accountability at all levels of the organisation, and providing guidance on what “good behaviours” look like. Compensation tools are less relevant in markets that either do not have high levels of compensation and/or where levels of variable pay are low.
Participants also indicated that there has already been significant change in the way firms view compensation as a tool to address misconduct. Banks are at different stages in this process, but practice seems broadly to be converging and focusing on the key things. While firms recognise that compensation and conduct are directly linked, and are increasingly looking to actively manage conduct via compensation tools both ex ante (explicit performance targets and encouragement of positive behaviour) and ex post (ensuring appropriate consequences for poor behaviour), they also noted that compensation tools should not be overemphasised. More generally, banks are focused on turning values into actions and ensuring that lines of business “own” conduct risk. At most banks codes of conduct set the framework for expected behaviour, and explicit expectations surrounding roles and responsibilities are emphasised. There has been steady progress linking performance objectives to the values or ethics reflected in codes, and increased weight is being given to related assessments of risk management and conduct in yearend performance assessments.
Importantly, there is also recognition that other values may pull away from these goals, for instance conduct and profitability drivers may clash. Banks pointed to the importance of “tone from the top” in signalling where to place the balance between performance and customer and counterparty interests, while recognising the importance of long-term relationships with all customers. One bank pointed out that even if doing the right thing for the customer pushes on profitability in the short-term, it will pay off in the long-term. Banks emphasised the importance of allowing time to embed already issued regulations and guidance setting forth supervisory expectations and of communicating a constant set of expectations in this area.
They noted that to be effective and to actually change culture and values, a holistic approach to culture, conduct, and employee development and reward systems must be developed, and this takes time. A number of banks noted that they would welcome more guidance from regulators on “what good looks like” and that they welcome initiatives such as round tables to share examples of better practice. Supervisors have an important role to play in identifying better practices and conveying them to the industry. It would be beneficial for banks to know whether they are on the right track. Finally, banks emphasised that a challenge of large organisations is consistency across markets. Although banks would like to see greater consistency between principles that are applied, there was less desire for uniform rules, i.e. to see those principles implemented in exactly the same way at every firm given the range of business models employed. There was also widespread support for further development of views on better practice.
The FSB welcomes any feedback on topics discussed at the round table and summarised in the note. Comments should be sent to fsb@fsb.org by 21 August 2016.
The FSB statement and related information can be found here.