One of the main lessons the subprime crisis pointed out was incentives could lead to higher risks in the entire system. (I have written a report on the various lessons)
This behavior was first pointed by Raghuram Rajan in his excellent paper (read my previous post). The magnitude of the crisis could have been lesser if the incentives were aligned towards more prudent behavior.
RBI has learnt the lessons and has acted fast on the matter. This BS story says:
The Reserve Bank of India (RBI) has turned down IndusInd Bank’s proposal to pay its new managing director and CEO Romesh Sobti, a one-time joining bonus and a severance package.
The banking regulator has also objected to the bank offering employee stock option schemes (ESOPs) to Sobti at a price lower than that of the fair-price formula suggested by the Securities and Exchange Board of India (Sebi), banking sources said.
A banking source said, “RBI obviously does not want IndusInd Bank to set a precedent of offering a joining bonus and a severance package. This is a practice followed by foreign banks. The package offered by IndusInd Bank is not commensurate with the size of the bank.”
Another source said the basic objection to IndusInd Bank offering Sobti ESOPs at a price lower than the Sebi-approved formula was due to an equivalent impact on the profit of the bank.
RBI is being criticised by many economists/media for its policies. I am sure this move will be criticised as well saying RBI shouldn’t intervene in compensation policies of a Bank. But, it has set the trend amongst regulators for aligning the incentive structure in financial markets. I am hopeful we see more developments worldwide on the subject.
