Analysis of the Clegg 5-point plan for banking

In the run up to the election, its worth analysing with a little depth, and from an economic stand point, the economics of some of the parties policies. For a first bash, let's drill down into Clegg's 5-point plan for banking reform.

No cash bonuses – We will require all bonuses in excess of £2,500 to be paid in shares. These shares will only be redeemable after five years; it will be written into the right of entitlement of these shares that they will revert to the company if they are pledged or used as security prior to the date of their redemption.

On first glance, this appears to make sense. Provide all members of staff within a bank the incentives to look after the long term interests of the institution.  
Let's take a step back. The banking crisis was triggered by the collapse of the American housing market, which soon would bankrupt the massive Lehman Brother's bank due to their high exposure to the sub-prime mortgage market.  Top Lehman staff lost millions in share options after the collapse of the bank.  Why?  They were already being paid heavily in share options as part of their bonuses. In fact, 30% of the bank was employee owned. So this incentive was already there, and remains unchanged.
So what effect will this have?  Staff will be unable to spend the vast majority of their bonus for 5 years.  Bonus values are linked to stock performance, which often fluctuates more with market conditions than company performance.  Ultimately, this increases the cost of bonuses to investors in banking, and reduces the appeal of the payment to employees.  The result is that top banking talent in the UK will seek employment in other countries and business will move elsewhere in the EU, irreparably damaging one of the key exporting industries in the UK while achieving nothing towards the original goal.

No bonuses at board level – We will ensure there are no bonuses at the board level of banks. This is not to say that board directors should not be well paid, but that they should have the long term interests of a company at heart – bonus payments do not encourage this.

Same principle as the first point, but here no share options are given as bonuses.  This would appear to reduce incentives for board members to look after the long term interests of the company.

No rewards for failure – We will extend the Financial Services Act to ensure that no regulated institution which has made a loss can pay discretionary bonuses.

After the fall of Lehman's, the world watched Dick Fuld and his motley crew walk away from Lehman's with self-gratifying golden parachutes.  This reflects the need for a re-think of the way board members are paid their bonuses to prevent this from happening.  It is not an indication that banks like throwing money at under performing employees at all levels.  Banks normally push out under performing employees by throttling their bonuses.  The large bonuses paid to some members of staff following poor company performance, is a retention payment for employees who held the bank afloat during a tough period.  If you prevent struggling institutions from retaining the staff that are keeping them profitable, the struggling bank shortly loses its talented staff. This increases the risk of the bank failing.

Total transparency – We will require the publication of the names of all bank staff that have salaries and bonuses that are greater than the Prime Minster’s salary (which is just under £200,000). In addition we will require the FSA to publish its assessment of all regulated firms remuneration policy.

An excellent way to introduce public sector problems into the private sector.  One knock-on effect of blocking bonuses is that banks downsize their bonus schemes and increase salaries.  This was evident when a 10% salary increase seen by employees in all the major city banks followed the 50% tax announcement on bonuses over £25,000.  This gets worse with the previous points, so now salaries reflect the value of an employee to a bank to a greater extent, as the bonus scheme is much smaller.  This gives employees the ability to know exactly what their colleagues are paid, and can value themselves against that.  If you're happy, you say nothing, if you know you are now worth more, you ask for more. This puts greater pressure on banks. If banks can't meet the salary increase demands, the employee moves on. So more people will be moving on, there will be less feeling of 'ownership' on the bank and so less incentive to look after the long term interests of the bank.

Holding directors to account – We will extend the powers of the FSA to ensure that the directors of banks are personally fined if their institution breaks the current code of practice for remuneration

I can't begin to see how this differs from the current system of FSA accountability.  Currently, financial institutions registered with the FSA much declare specific roles for certain directors, such as risk management officer, chief financial officer etc...  Now if the bank doesn't manage its risk effectively, the risk management officer is liable for prosecution.  So this 5th point appears to change nothing.

So in summary, when you look at the incentives placed on the individual actors of the financial sector in the UK, you begin to realise that there are no winners with these changes.  Well, apart from other EU nations who are likely to see an influx of new banking talent and business expansion as a result of the exodus of london's banking sector.  Personally, I'm not sure why a UK resident would vote for that.