Incentive Compensation Arrangements Under Dodd-Frank

The sky must be falling, or perhaps it has fallen already. There is no other possible explanation. On Monday, February 7, the following alphabet soup of government agencies published proposed rules under the incentive compensation provisions of the Dodd-Frank Act:

• Office of the Comptroller of the Currency (OCC)
• Federal Reserve System (Fed)
• Federal Deposit Insurance Corporation (FDIC)
• Office of Thrift Supervision (OTS)
• National Credit Union Administration (NCUA)
• Securities and Exchange Commission (SEC)
• Federal Housing Finance Agency (FHFA)

Surely my eyes deceive me in reading this: http://www.fdic.gov/news/board/2011rule2.pdf

Not only are these agencies telling large banks (assets of $50 Billion US or more) how to pay their executives, they are telling the executives (and other individuals who could subject the banks to significant risks) that they must defer large chunks of their incentive payments.

Don't get me wrong. I'm in the line of people who would tell you that many of these banks overcompensated these same people while some of these banks were in danger of failing (or did fail) without government intervention. Some of these banks did not come close to failing. They already have policies and procedures in place. Who decided that they federal government should have this kind of control? Surely, they have overstepped their bounds.

Before describing the source of my indignation, I must pause to explain what is meant for purposes of this regulation by the term, executive officer. It is any person (without regard to title, salary or compensation) who holds the title or functions as the President, Chief Executive Officer, executive Chairman, Chief Operating Officer, Chief Financial Officer, Chief Investment Officer, Chief Lending Officer, Chief Legal Officer, Chief Risk Officer, or is head of a major business line (major business line appears to be undefined).

So, what's the buzz, tell me what's a happening (with apologies to Webber and Rice for pilfering from Jesus Christ Superstar)?

I summarize for these Large Covered Financial Institutions:

• at least 50% of the compensation of executive officers would need to be deferred for a period of at least three years
• deferred amounts paid must be adjusted for actual losses or other measures or aspects or performance that are realized or become better known over the deferral period
• the release of deferrals may be as rapid as pro rata over the three-year (or longer) period
• the agencies seek comment on many things, including whether the mandatory deferral period should be longer
• the Board (or a Board committee) of each of these organizations must similarly evaluate the incentive-based compensation of other individuals who could expose the organization to high levels of risk

These are too many rules. And, these rules punish the innocent equally with the guilty. Apparently, clawbacks and similar mechanisms are not sufficient. These rules are taking business judgment out of the rulebook for the financial institutions that already have appropriate controls in place.

This could have been done differently. If we had let the banks that had been mismanaged fail, the survivors would have been rewarded for their prudence and they could continue to compensate their key people prudently. But, more regulation leads to more regulation leads to more regulation leads to weakening (rather than strengthening) of the industry.

In case you weren't sure, I don't like it.