Following the financial crisis, banking has come into the spotlight for academics, practitioners, policy-makers and particularly taxpayers. The role of banks in sustaining the sound functioning of markets and spurring economic growth is well recognized; however the recent financial crisis shows that there are issues relating to managerial pay in banking that remain unresolved.

The study of agency issues in banking is of particular interest. Banks, like manufacturing firms, raise capital from financial markets and pay dividends to their shareholders. In other words, they are subject to market pressure. But in addition to this, they are also subject to regulatory pressure; this can interfere with the sound functioning of financial markets (agency and signalling mechanisms) in raising capital and paying bonuses and dividends. The extent of pressure exerted by regulators and supervisors will determine how soundly financial markets function. In addition to the acute agency issues in banking, the financial crisis (and the subsequent regulation being put into practice) provides a unique natural experiment to study these agency issues.

In the former project, “Banking: Globalization, Governance and Regulation” (rated “Excellent” by the FCT panel), the team studied the following issues with respect to governance and managerial pay: (i) the pay-performance relation in banking; (ii) the relation between risk and managerial pay in the banking sector; (iii) the relation between managerial ownership and bank risk, value and performance; (iv) the relation between board diversity (measure of board independence) and bank risk and performance.

Following the successful completion of the aforementioned project (our work was published by the Journal of Corporate Finance, Review of Accounting Studies and the Journal of International Money & Finance, among others), the team intends to further contribute to the literature on agency problems in banking, more specifically regarding managerial pay, in the context of the financial crisis. Explicit and implicit safety nets available to banks exacerbate the moral hazard problem in the sector, leading to the misalignment of interests of managers and shareholders (and other stakeholders notably depositors and regulators). The financial crisis, and the subsequent bailout of several banks with public finances, further exposed this misalignment and led to the outcry of the media and public in general. Managerial pay practices are considered to have tipped the scale, and exhibit unexplained disparities within and across banks and countries. They are now considered to be the root cause of the financial crisis.

The study of managerial pay in banking is drawing significant attention from academics (Abreu and Gulamhussen, 2013 and 2014) and regulators

(Basel III and the Dodd-Frank Act), especially in the aftermath of the financial crisis. Our project intends to address the following key issues to contribute to the understanding of the managerial pay practices in the sector in the context of the financial crisis: (i) what are the costs of alternative pay modes in banking?; (ii) what is the relationship between risk-taking and alternative pay modes? (test of the model identified in (i)); (iii) what is the role and impact of regulation on managerial pay practices?; (iv) what is the relationship between board composition and executive managerial pay with risk taking in banking?; (v) are there differences in the managerial pay structure of Top 5 bank executives?; (vi) is executive managerial pay different in banks that received state-aid?

Our study will address these questions from theoretical, empirical, descriptive and case-study approaches. We will derive the main hypotheses from the existing literature and our own theoretical work. We will collect data from BANKSCOPE, BOARDEX, EXECUCOMP, and SNL. We will use multiple methodologies, namely, ANOVA, OLS, 2-SLS, 3-SLS, seemingly unrelated regressions, TOBIT, random effects models for panel data and Heckman regressions. Our findings will discriminate the academic contributions, and implications for regulators and managers. We will disseminate our work at major conferences and submit our work for publication in top tier journals.

Ultimately, the effect of the recent financial crises in the banking industry was the introduction of higher regulatory requirements on capital for absorption of unexpected bank losses on one hand, and active restrictions on banks ranging from deleveraging to criticisms of managerial pay on the other. The fact that several banks had to tap funds deployed by the State, styled as state-aid, to reach the regulatory requirements on capital has brought managerial pay to the debate led by policy makers, governments, supra national agencies and the public at large. We intend to analyze the evolution of managerial pay in banks that had to receive aid from the State, and relate our findings to the existing body of literature on managerial pay. Our study should be relevant in the context of the financial crises, since agency issues are most often studied in a non-crisis context.

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