Thursday, September 24, 2009

Evidence Against Banker Pay Link To Financial Crisis

The Wall St. Journal has a good article,"Bank Pay and the Financial Crisis" by Jeffrey Friedman, debunking the myth that compensation incentives caused the financial crisis. Friedman, editor of the journal Critical Review and a University of Texas, Austin visiting scholar, discusses the evidence and research that compensation incentives did not caused the financial and banking crises.

From Friedman's article:
In the only scholarly study of the relationship between banker pay and the financial crisis, Mr. Stulz and his colleague RĂ¼diger Fahlenbrach show that banks whose CEOs held a lot of bank stock did worse than banks whose CEOs held less stock. (The study was published in July on Another study by compensation consultant Watson Wyatt Worldwide in July shows a negative correlation between firm Z scores—a measure of their risk of bankruptcy—and their use of such widely criticized practices as executive bonuses, variable pay and stock options. These studies suggest that bank executives were simply ignorant of the risks their institutions were taking—not that they were deliberately courting disaster because of their pay packages.
Read the complete Wall St. Journal article here.

See my earlier post on Friedman, "Debunking Bonuses, Irrationality And Capitalism As Causes Of The Economic Crisis."

The findings mentioned in the article are consistent with Friedman's belief that bankers made cognitive errors and did not perceive the riskiness of their actions. See my prior posts, "Did Cognitive Errors Cause The Financial Crisis?" and "Incentive Compensation Restrictions Will Not Accomplish Their Goals: Incentive Bonuses Only Identify Risk Taking Employees."

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