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FSB Compensation Workshop 2019: Key Takeaways Summary

Overview

On 13 November 2019, the Financial Stability Board (FSB) held a workshop in Basel to discuss the implementation of the FSB's Principles for Sound Compensation Practices and their Implementation Standards by banks, insurance, and asset management firms. The goal was to gather insights on compensation challenges and effectiveness to inform the FSB's assessment of these frameworks. The workshop was conducted under the Chatham House rule, meaning the summary reflects the understanding of CMCG members and not a consensus or official assessment.

Key Themes

1. Effectiveness of Compensation Policies

• Embedding in Culture: Firms reported that the Principles and Standards are being integrated into their organizational culture.
• Metrics for Evaluation: Some firms use customer satisfaction and operational losses as indicators of policy effectiveness.
• Early Stage Development: Most firms are still in the early stages of developing frameworks to assess effectiveness.
• Communication Importance: Effective communication with employees is seen as crucial for driving cultural and behavioral change.

2. Risk Alignment

• Regulatory Focus: Risk alignment is a core objective of compensation reforms.
• Banks Ahead: Banks, due to earlier regulations, are more advanced in aligning compensation with risk.
• Non-Financial Metrics: Non-financial metrics (e.g., ESG) are increasingly used, but their measurement poses challenges.
• Positive Adjustments: Positive compensation adjustments are seen as a tool to promote desired behaviors and reduce a "culture of fear".
• Director Alignment: Academic research suggests that directors' long-term equity holdings may align their interests with firm profitability.

3. Use of Data

• Improved Systems: Firms have enhanced systems for collecting and analyzing compensation data.
• Dashboard Utilization: Some firms use consolidated dashboards to support compensation decisions with both financial and non-financial metrics.
• Real-Time Analysis: New tools enable real-time data analysis during compensation rounds, though implementation is complex and costly.
• Data Overload: Firms face the challenge of managing large volumes of data and presenting it concisely to senior management.

4. Governance

• Control Functions: Risk and compliance functions play a key role in compensation decisions.
• Board Focus: Non-executive directors are increasingly involved in compensation matters.
• Harmonization Challenges: Despite some alignment, differences in deferral requirements, bonus caps, and disclosure regimes remain.
• Discretion vs. Consistency: Firms balance consistent processes with necessary discretion in compensation decisions.

5. Compensation Tools

• Limited Use of Clawback and Malus: Due to complexity and legal challenges, these tools are rarely used.
• In-Year Adjustments: This is the most frequently used ex post adjustment mechanism.
• Legal Hurdles: Clawback is often not applied due to legal risks, and some jurisdictions lack qualified legal expertise.
• Career Impact: Clawback can negatively affect employee career progression and may deter future employment.
• Severance Payments: These are becoming a focus due to their limited role in risk alignment.

6. Competition for Talent

• Hiring Challenges: Firms face difficulties in attracting talent due to changing employee priorities.
• Cross-Sector Recruitment: There is an increased need to recruit from non-financial sectors, where compensation structures differ.
• Non-Financial Factors: Prospective employees, especially younger generations, prioritize ESG, purpose, and culture over compensation.
• Regulatory Impact: Regulatory changes have led to a more level playing field within financial services, though inconsistencies remain.
• Internal Mobility: Differences in compensation policies across jurisdictions complicate internal employee transfers.

Conclusion

The workshop highlighted the ongoing efforts of financial institutions to align compensation with risk and organizational values, while navigating legal, cultural, and operational challenges. The role of data and governance was emphasized, and there was recognition of the need for further legal clarity and harmonization to support effective implementation. Additionally, firms are adapting to new employee expectations, particularly regarding ESG and purpose, in their compensation strategies.