European Union bank watchdogs fleshed out on Friday (8 October) what amount to the world's toughest and most far-reaching curbs on bonuses, prompting a warning that financial firms are now more likely to set up shop elsewhere.
Bonuses will be capped on the basis of earnings and liable for repayment if shown to have been awarded for unduly risky actions, according to guidelines from the Committee of European Banking Regulators (CEBS), which will become mandatory from January following consultations.
The rules aim to align pay with risks and banks will be forced to rewrite staff contracts, a costly exercise which could see base salaries being bumped up to skirt the curbs.
After governments across the EU had to bail out banks, politicians have called for curbs on payouts in the sector and the guidelines are tougher on firms receiving state aid.
The 84-page set of rules implements a new EU law that curbs excessive bankers' pay from next year and go beyond global principles on remuneration agreed by the world's top 20 leading developed and developing economies and individual EU states like Britain.
"The CEBS guidance makes the European regulation of banking pay among the most stringent and it confirms the extension of the provisions to the world-wide operations of European banks," said Jon Terry, a partner at PricewaterhouseCoopers.
"Unfortunately this deviation from global trends in banking remuneration could make it more likely that banks move operations, or at least expand, outside of the European Union," Terry added.
Parts of the guidelines are less restrictive than some in the industry had feared as CEBS ducked one major tool.
Banks will have to fix an "appropriately balanced" maximum ratio of bonuses to fixed salaries for top staff, stopping short of imposing a set ratio across the board.
"In all cases, the separation between fixed and variable components must be absolute. There must be no leakage between these two components," the draft guidelines said.
Bump up base salaries
CEBS also said it has applied "proportionality" to all aspects of the guidelines, a step analysts said would be welcomed by smaller, less risky firms.
But many are in line with expectations as CEBS must operate within a new EU law known as the amended capital requirements directive or CRD III.
Only a portion of a bonus will be payable upfront, with 40-60% deferred over 3-5 years, depending on the risk profile of the staff member.
Taking a tougher line than in centres like London, half of any upfront bonus must be in the form of shares or other securities while the other half can be in cash, likewise for the deferred part of the bonus.
If 40% of a bonus is paid upfront with the rest deferred this would mean that the banker could only receive 20% of the overall bonus in cash immediately.
"In practice, this will mean that salaries to these staff will have to go up substantially in order to enable them to receive a decent cash bonus," said Simon Gleeson, a partner at Clifford Chance law firm.
"It look as if we are going to move from the era of $3 million bonus to the era of the $3 million base salary," Gleeson added.
Banks should also not award "golden parachutes" – payments to people who are leaving – that are unrelated to performance and no staff should be "rewarded for failure". Multi-year guaranteed bonuses will be banned.
After a one-month public consultation, CEBS will forward a final version of the guidelines to the EU's executive European Commission for approval. There will be a public hearing in London on 29 October.
The guidelines are tougher than the remuneration code being applied in Britain, the EU's biggest banking centre.
"We will consider how to reflect the guidelines in our own code when we see the final version," said a spokeswoman for the UK Financial Services Authority, which is a member of CEBS.
Angela Knight, chief executive of the British Bankers' Association, said the EU must be part of an international approach to rulemaking or it risked distorting markets.
"We need to look across the Atlantic to the United States, and east towards Asia, to ensure changes are imposed sensibly everywhere," Knight said.
"If they are not, then the result will be significant difficulties for businesses in Europe and for the many hundreds of thousands of jobs that depend on the financial services industry," she added.
(EURACTIV with Reuters.)