UK investors have finally grown a backbone. Having suffered several years of collapsing share prices and dividends, the Association of British Insurers is demanding that banks cut high pay to ensure they earn the cost of equity. Though the proposals are sensible, the plea will be in vain unless investors are willing to vote against poor remuneration plans, or the directors responsible for them.
The ABI’s core demand is that no bank should pay bonuses until its return on equity exceeds its cost of equity. In the current climate, that’s a big ask. Had Barclays wanted to hit its target 13 percent return on equity in 2010, it would have had to cut total compensation by 31 percent.
Banks argue that they are taking steps to tackle pay bills by cutting staff and shrinking bonuses. And because most pay is now in the form of shares, employees are suffering alongside shareholders. No bank wants to be the first to cut pay dramatically for fear of losing disaffected staff to rivals. But, as the ABI points out, with pretty much every bank shrinking, poaching is hardly a risk right now. Another problem is that regulatory demands for deferred bonuses have made it harder for banks to quickly cut pay when income shrinks.
Shareholders can’t have it all their own way: as the Bank of England has pointed out, bigger capital buffers mean that bank returns will have to fall. But if the consequence of reform is that banks are safer, investors should be willing to accept utility-like returns.
Apart from selling bank stocks, shareholders have so far done precious little to show their displeasure. Investors can flex their muscles by voting down bank remuneration reports, and opposing the re-election of directors who fail to rein in pay. But unless they act on their demands, shareholders can hardly claim to be surprised if bankers continue to pay themselves ahead of their owners.