British banks' bonus freedom to pay paltry

These new incentives are unlikely to boost the country's financial industry above its competitors because top bankers are hesitant to exchange handsome fixed salaries for uncertain rewards.

Scrapping the nearly decade-old bonus cap is a central pillar of Britain's post-Brexit regulatory reforms, initially adopted by the European Union to mitigate excessive risk-taking following the taxpayer bailout of banks during the global financial crisis.

The results of a consultation by the Bank of England and the Financial Conduct Authority on the proposal to remove bonus restrictions are expected in the coming weeks. While initially targeting payouts earned in 2024, there's an option to accelerate this to cover bonuses for 2023.

Ministers and regulators hope this change will attract more top-tier bankers to Britain and enhance London's appeal as an international capital hub, competing with financial centers like New York, Singapore, Paris, and Frankfurt.

However, industry experts, including bankers, lawyers, and compensation consultants, argue that high-achievers may risk more than they stand to gain.

"Eliminating the cap is unlikely to entice more top bankers to the UK due to the increased uncertainty in their compensation," said Luke Hildyard, director at the High Pay Centre think tank, in an interview with Reuters.

According to the latest data from the European Banking Authority, over 70% of EU-based bankers earning more than 1 million euros and subject to the bonus cap were based in Britain before its departure from the bloc in 2020.

A cap limiting bonuses to 100% of fixed pay, or 200% with shareholder approval, has prompted some UK banks to augment base salaries with customized and often undisclosed, role-based allowances, or RBAs, to remain competitive in the global talent market.

Regulators argue that this practice makes it more challenging for banks to reduce costs and absorb losses during economic downturns.

However, many bankers are expected to resist trading guaranteed pay for potentially larger bonuses, which can fluctuate significantly throughout economic cycles.

"I highly doubt there will be a dramatic return to the days of low base salaries and high bonuses that characterized the pre-financial crisis era," said Suzanne Horne, head of the International Employment practice at Paul Hastings, in an interview with Reuters. "We are facing a cost-of-living crisis, high inflation, and industrial action by the public sector, unseen since the 1970s. Any sudden announcement of changes to a bank's bonus structure is likely to be met with controversy."

With Britain abolishing the bonus cap, the EU would become an exception on the global stage. Countries like the United States, Singapore, Japan, and Switzerland employ alternative mechanisms to discourage excessive risk-taking, which Britain intends to uphold. These mechanisms include ensuring that only a portion of a bonus is paid upfront in cash, with the remainder in bank shares that can only be cashed in over several years, simplifying the process of "clawing back" awards in cases of misconduct.

Toxic conversation

Bankers argue that highlighting bonuses is never favorable, particularly during a time when millions of people are grappling with financial strain. Some banks are already contending with negative headlines for closing accounts and failing to pass on higher interest rates to savers.

UK Finance, the industry body for British banks, did not respond to the public consultation, leaving individual members to provide comments if they wished.

"You can't imagine a more politically sensitive topic for discussion. This has never been a request from the banking industry, and we do not want this to dominate the conversation in an election year," remarked a senior banker at an international institution, alluding to the anticipated UK general election in 2024.

Implementing rapid compensation changes will be challenging in practice since higher base salaries are embedded in contracts and require employee consent or a change in role.

"That said, it is possible that this consent may become more readily available against a backdrop of significant redundancies at banks in the first part of 2023, coupled with bank failures and mergers," added Horne.

According to the public consultation, scrapping the cap could support Britain's appeal as a "business-friendly destination."

However, it remains uncertain whether subsidiaries and branches of EU banks in Britain would still be subject to the bloc's cap and whether the EU might respond, for instance, by making enhanced access for London's financial sector even less likely.

Simon Patterson, managing director at Remuneration Associates, suggested that this change might benefit U.S. firms interested in relocating staff from New York to London. However, European banks may opt against changes to avoid creating a two-tier compensation system or provoking the EU to demand the relocation of more UK staff to the continent.

"Not much is likely to change for companies moving staff to operate within the EU," he explained. "After all, the EU is intensifying requirements, asserting that 'presence' must not be mere window dressing."

Others cautioned against exaggerating the significance of bonuses in Britain's efforts to expand its financial sector, which is still recovering from the loss of major listings, such as Arm Holdings.

"Compensation is a minor factor in the broader landscape of a thriving financial sector. Competitiveness hinges on the entire ecosystem," commented Christian Edelmann, Managing Partner, Europe at Oliver Wyman.