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Intense scrutiny

(Article published in the Jun 4, 2008 issue of Manila Standard Today)  
 

Here in the Philippines, “sour grapes” would have been the quick retort of the banking industry to any attempt on the part of the Bangko Sentral ng Pilipinas to look into the way bank executives are compensated.  Despite measures in the new central bank charter to raise the level of the salaries and benefits of officers and employees of the Bangko Sentral ng Pilipinas (BSP), the CEOs and the more senior managers of private banks continue to receive by far higher pay than their regulators. Regulatory scrutiny of therefore of bank executive compensation would be, at least culturally, suspect.

That may not last for long, though.  Elsewhere and beyond our shores, authorities pressed for a credible explanation of what made the sub-prime crisis so devastating are training their guns on the way senior bank managers collected their compensation.  It seems that, because the trading mind-set had taken over from the traditional idea that banking was a long-term relationship and not just singular, though repeated, transactions, the evaluation of the performance of senior bank executives has centered on the revenues generated for the institution in the short term, irrespective of the risks to capital attracted by the methods used therefor.

According to Tom Gosling, of PriceWaterhouseCoopers, “the overwhelming majority of banks used fairly basic profit numbers and did not adust for risk at all.” A noted exception is JP Morgan which already has in place the risk factor in the performance targets and evaluation of its people. 
 










     

That type of compensation structure, for the rest, engendered, it seems, in the bank executives the attitude of “après moi, le deluge”, though of course couched in the usual subtle and put-on gentility of Shylock’s sons and daughters.  Thus incentivised for current gains, as was the case in sub-prime mortgages, senior bank management is suspected to have turned a blind eye to dangers that lurked deep in the future and at no peril to their pocketbooks since, most likely, the reins of the bank would be in the hands of their successors by the time the dangers become manifest.

All to the prejudice of the owners of capital who are there, by definition, in the long term.  As the CEO of the UK’s Financial Services authority, Hector Sants, is reported to have warned banks’ boards, a compensation structure that did not consider the possibility of later losses “is a risk for shareholders.”

The concern appears to be worldwide.  In the United States, where the subprime crisis seemed to have first reared its ugly head, the House of Representatives Committee on Oversight and Government Reform conducted hearings hearings on bank executive compensation last March.

In continental Europe, the European Union finance ministers are within the year expected to look into the issue of what Joaquin Almunia, the monetary affairs commissioner, describes as “scandalous executive pay levels” of banks.

It could be almost a done deal in the United Kingdom, where the level of compensation is openly considered “excessive” and is widely recognized as contributory to the propensity of bank executives to take unwarranted risks with the stockholders’ money.  The Governor of the Bank of England, Mervyn King, was reported to have told Parliament last April that he was devoting his second term to proactively prod the banks to address the problem. He promised, “I intend the Bank to contribute to the design of regulatory and incentive structures…to try to curb the excessive build-up of risk-taking and credit creation which was seen ahead of the recent crisis.” 

The regulator and the regulated, too, seem in concert, if not consorting with each other on the issue.  Hector Sants, in a dinner last May 20, revealed plans of the Financial Services Authority to factor in bank executive compensation structures when considering the over-all risk posed by a financial institution to the wider financial system.  In response, the Institute of International Finance (IIF), as industry spokesman roughly corresponding to our local Bankers Association of the Philippines, came out in favor of risk-adjusted performance targets for bank executives. 

Instead of asking Parliament to hold an inquiry or otherwise investigate in aid of legislation and thereby invite government intervention through, at least, an amendment of the law, the IIF, was reported by the Financial Times, to have rallied the industry to proactively take the initiative, not wait for government to step in,  and  “called for bonus structures that were not simply a function of absolute revenues but also reflected the cost of capital of each individual unit.”  Detailed recommendations are expected to come out this coming July.

All this concern over bank executive pay, however, ought not diminish the credit, much less the compensation, due to Mr. Eugene Ellis, CEO of Standard Chartered Bank branch in the Philippines.  Last month, Mr. Ellis was reported by this paper to have announced that 2007 was the best in the 135 year history of SCB in the Philippines.  He has thus surpassed the net revenue outputs of prior CEOs and country heads, like Ervin Knox who has since retired and presently heads a bank in the Middle East; Annemarie Durbin who now holds a very senior position in the inner sanctum of the bank in London; and Simon Morris who is presently CEO of the bank’s operation in Indonesia, a far bigger market than the Philippines.

With the branch’s posted net income of Php 1.1 billion last year as his speaker’s platform, Mr. Ellis announced his “conservatively optimistic” view of the country’s prospects for 2008, in the light of rising food and fuel prices and a continuing global financial market turbulence.  Speaking for his bank, and obviously with its authority, he expects our growth in GDP this year to be 5.0%, much lower than the record-high of 7.3% in 2007. 

Inflation Mr. Ellis sees as breaching the Bangko Sentral’s target of 5.0%, without meaning of course to say a thing or two about the BSP’s target setting acumen.  He has good and bad news concerning money sent from overseas Filipinos: good news for the beneficiaries is that the peso he forecasts as deteriorating to 43 pesos to the dollar by year-end; the bad news is that the inflow will slow this year.  He therefore tells the Philippine authorities not to look to overseas Filipinos’ remittances as a sustainable growth driver.

The tourism secretary of this administration and whoever would be the next, would do best to heed Mr. Ellis’ observations.  Mr. Ellis is reported to have observed that the country so far has attracted more backpackers or budget travelers, rather than the big spenders.  His obvious proposal for an alternative strategy is to attract foreigners for medical tourism and retirement. 

The Secretary of Finance, too, should lend Mr. Ellis, at least, an ear.  Mr. Ellis is said to have noted that the tariff cuts on oil did not do what he considers enough to arrest rising pump prices.  Exhibiting economic expertise, he, according to Doris Dumlao of another broadsheet, said this has put pressure on the farm sector which in turn is hit by higher power generation and transportation costs.

          Standard Chartered Bank’s London office should therefore not give any thought to reviewing the bonus well-earned by Mr. Ellis in last year leading his unit in this our Iberian village to record revenue performances.  He is the oracle of economic wisdom here; if costs are to be cut, SCB head office ought to consider no longer necessary the regular visits to the country of its economists regularly giving investment briefings to its clients and invited guests here.  With Mr. Ellis as the bank’s face here, SCB is spoken for in the way it richly deserves.

 

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