The Fed Will Put Bonus Regulators Directly Inside Banks

bernankemad tbi

The Federal Reserve isn’t going to wait for financial reform to start broadening its power.

According to WSJ, the Fed is set to step up its oversight of banker pay without waiting for a Congressional vote, and as part of its new plan it will place regulators directly inside banks to monitor (and possibly reject) pay packages.

The Fed itself believes it has the legal authority to take such action through its existing supervisory powers, which are designed to oversee a bank’s soundness.

Its strategy appears to go further than what some in the industry were expecting, given that it would apply to many employees, not just top earners. It would go beyond a more generic list of “best practices” that many thought the central bank would craft.

The proposal will likely push banks to use “clawbacks” — provisions to reclaim the pay of staffers who take risks that hurt their firms — in certain pay packages, among other tools, to punish employees for taking excessive risks with their firms’ money. The central bank could also demand that more pay be offered through restricted stock or other forms of long-term compensation designed not to reward short-term performance.

The political response to this news will make for an interesting test. On the one hand, the Fed is frequently encouraged to exercise more independence, though at the same time it takes criticism for being an un-democratic institution. On the other hand, those critics complain that the Fed is designed to protect big banks, but if the Fed is cracking down on pay then it doesn’t quite fit the plot. See the potential for confusion?

All that being said, this has the potential to be quite toothless. While in theory it sounds good to have active regulators really getting inside companies, there’s a problem anytime you have regulators with mediocre pay and limited knowledge in the sharktank, where they’re likely to be bullied and outmatched.

The next time there’s a bubble, they’ll be just as likely to miss it as anyone else.

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