"Heads I Win, Tails You Lose"
New York Attorney General Andrew Cuomo's report on the compensation and bonus payments at banks has been published and it's an interesting read.
Four banks actually paid out more in bonuses than they earned--paying out billions when they were losing (tens of) billions--and even the banks that made money, the bulk of their profits went to employees, not investors.
In some senses, large payouts became a cultural expectation at banks and a source of competition among the firms. For example, as Merrill Lynch's performance plummeted, Merrill severed the tie between paying based on performance and set its bonus pool based on what it expected its competitors would do. Accordingly, Merrill paid out close to $16 billion in 2007 while losing more than $7 billion and paid close to $15 billion in 2008 while facing near collapse. Moreover, Merrill's losses in 2007 and 2008 more than erased Merrill's earnings between 2003 and 2006. Clearly, the compensation structures in the boom years did not account for long-term risk, and huge paydays continued while the firm faced extinction.
I'm a bit confused as to how compensation can get so woefully disconnected from performance and am concerned that this problem hasn't been properly addressed. The conventional wisdom that banks need to pay astronomical salaries and bonuses to attract the top talent, which then maximizes profitability, doesn't seem to be true. As the case with Merill shows it actually made no profit over the course of six years, yet its employees were compensated as if those profits were real and lasting.
With Goldman Sachs and others paying back TARP money so they can get free of government oversight on their compensation structure, it doesn't seem like Wall Street has learned anything from the meltdown.