‘Dumb’ Bonus Caps Won’t Reduce Pay, Aren’t Coming to the U.S.

The European Union appears well on its way implementing strict caps on banker bonuses, with finance chiefs for 26 of the 27 EU nations backing the proposed rules. The caps have ruffled many a feather on both sides of the pond, as the rules also apply to Americans working for EU banks as well as the U.S. units of European banks.

With the caps already set to affect bankers living on American soil, speculation has arisen that the U.S. could eventually consider similar regulations. We asked Alan Johnson, founder of compensation-consultant firm Johnson Associates Inc., about those chances. He also provides his thoughts on the politics behind the proposed EU regulations.

With the EU pushing forward with bonus caps, do you expect the U.S. to follow suit?

I don’t think so. U.S. regulators found out up close and personal how difficult it was to impose pay restrictions included in TARP. Plus, it goes counter to banks trying to be less risky. Anything that encourages larger salaries is just plain dumb.

What makes the EU situation unique?

It’s a class warfare approach in the EU. It’s all politically driven. No regulator believes bonus caps are smart. U.S. regulators will not go down that road partly because limits on pay are not part of our culture or DNA. Good or bad, the U.S. is still a bit of the Wild West.

How big of a disadvantage will bonus caps be for EU-based banks operating in the U.S.?

To some degree, it will depend on how U.S. regulators respond. Those banks will need to keep more capital in the U.S. to keep their employees happy [through higher base salaries]. That will result in a drag on returns. Banks will still need to pay the market.

The impact on morale will not be good. Bankers at U.S.-based firms are already giving [employees working at EU banks] a hard time on pay.

How many bankers will be affected by the proposed EU bonus cap rules?

The rules aren’t clear enough to guess. Hopefully this will just affect the material risk takers – around 3% to 4%. But don’t get confused. This won’t actually reduce pay. There is enough leeway in the proposed rules to get around them. If they did actually reduce pay, people will go to work somewhere else. These rules are intended to be political – to make a statement – not to reduce pay. If politicians wanted to do that, they would just make a mandate that you can only take home X in a year.

It’s become a game of interpretation really. No one wants to destroy the banks. Politicians want to do something that appears to be important but isn’t.

What about the Swiss Minder Initiative, giving voters authority over executive pay? How close is the U.S. to implementing something similar?

The U.S. is pretty close to being there already with the say-on-pay vote. Look at the situation with Citi’s former CEO [Vikram Pandit]. If you fail to get the votes, you get fired. We are kind of there. It’s not necessarily a good thing. It’s a dead weight cost to our society.