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President Biden demanded that executives at failed financial institutions be held accountable in the aftermath of a series of bank failures.
Attempting a populist turn after banking regulators engaged in an enormous backstopping of the U.S. banking system over the past week, President Biden last Friday demanded that executives at failed financial institutions be held accountable in the aftermath. “When banks fail due to mismanagement and excessive risk taking, it should be easier for regulators to claw back compensation from executives, to impose civil penalties, and to ban executives from working in the banking industry again,” Biden said in a statement, outlining the contours of a proposed reform.
All three of these steps, in some form, are available under current law, but under different standards and imposed on different types of bank executives. The Federal Deposit Insurance Corporation (FDIC) can already bring fines against bank executives and bar them from working in banking if they engage in “reckless” or “unsafe and unsound” practices. The administration wants to lower the legal standard for executives whose banks fail.
For executive compensation clawbacks, the FDIC can impose them using resolution authority, but only for the largest banks, not large regionals like Silicon Valley Bank. Biden’s proposal stressed the need to recover gains from recent stock sales, which is relevant because Silicon Valley Bank CEO Greg Becker sold $3.6 million in stock just one week before the bank announced portfolio losses that led to the bank’s collapse. Other executives at SVB and First Republic, which was rescued by large-bank capital last week, also sold stock in advance of the tumult. Stock sales over the past two years by executives at SVB total $84 million.
It all sounds like common sense. Bank executives should share the pain when their actions lead to collapse. And especially if they jumped off the ship right before it sank. (Though that’s already illegal under the insider trading laws, and the Justice Department has begun an investigation.)
So if you didn’t know that Congress last tried to address executive compensation, including for bankers, in the Dodd-Frank Act 13 years ago, and that it took until last October for even one of those rules to get finalized and that it won’t be implemented until next year at the earliest, then you’d think this is a worthwhile initiative.
The bank regulators hip-pocketed one of those rules that Congress mandated in 2010—the one that would prohibit banker compensation that is specifically tied to taking inappropriate risks. The last time there was even a proposed rule on this was nearly seven years ago.
And in 2018, when Federal Reserve chair Jerome Powell was asked whether he would abide by Congress’s wishes and finish the rule, he blandly replied, “We tried for many years” and “we were not able to achieve consensus”—just thumbing his nose at a congressional mandate.
If you’re reading this, you are likely unsurprised that Washington doesn’t do well with executive compensation rules. But the odyssey in recent years to get even more trifling rules passed should create some considerable skepticism about the efficacy of yet another proposal.
Sections 954 and 956 of the Dodd-Frank Act cover executive compensation. Section 954 required all public companies to develop policies to disclose their incentive compensation. If there was a restatement of earnings due to dodgy accounting, the company was required to claw back those incentive payments. The idea was to prevent executives whose pay depended on hitting certain financial targets from having an incentive to game public accounting.
Time and again, we have seen the regulators who sit closest to the bank and executive lobbies simply slow-walk these kinds of proposals to death.
As this rule implicates literally every top executive at every publicly traded company, it led to a World Series of lobbying. The Obama Securities and Exchange Commission (SEC) didn’t get around to proposing a rule on Section 954 until 2015, five years after Dodd-Frank passed. The proposal lingered until Obama left office; then the Trump administration shut down any action on the rule.
Section 954’s public comment period wasn’t reopened until October 2021. Then it took a year for comments to be taken in. The SEC adopted the rule on a party-line vote in October 2022 (here it is, if you’re interested). After that, it took 60 days for the rule to become effective, and then 30 more days for exchanges to file proposed listing standards, and it will take yet another year for those standards to become effective. Only then will companies have to outline a clawback policy for restatement of accounting. That would be sometime in 2024.
And at least that has an end date. Section 956 is an even bigger mess. This provision also involved incentive-based compensation, this time for bankers in particular. It would prohibit banks with $1 billion or more in assets from offering compensation practices to certain executives that incentivized risk-taking. Any violation of this rule would lead to potential deferred payment or clawbacks. Sarah Anderson of the Institute for Policy Studies has detailed what regulators could have done with the rule: ban stock options for bank executives, ban executive pay “hedging,” where bankers buy insurance to protect against a bad year, or force set-asides of executive compensation in cases of insolvency, like what happened at Silicon Valley Bank.
There was even a due date for promulgating the rule: May 2011. But as Soyoung Ho has explained, the regulators promptly blew right past that deadline. Again, executives were not keen about any intervention into the nature of their God-given pay packages, even to police for fraud. They were aided by the fact that seven agencies—the SEC, the FDIC, the Treasury Department, the Federal Reserve, the Office of the Comptroller of the Currency, the Federal Housing Finance Agency, and the National Credit Union Administration—all had to agree on the rule.
A rule was proposed in May 2011; nothing got done. Another proposal came through in May 2016, at the tail end of the Obama administration; the Trump administration deep-sixed that one. After the changeover to Biden and a strong SEC chair in Gary Gensler, Section 956 was initially put on a fast track to implementation. But more recently, it has moved back to the long-term rulemaking agenda, despite the SEC wrapping up other Dodd-Frank holdover rules quickly.
Public Citizen wrote a report last year detailing how incentive-based compensation continues to lead to excessive risk-taking. One of the highlights of the report was about investor abuse at First Republic and Credit Suisse, both banks that required private sector–led bailouts last week.
“This ongoing litany of inappropriate action by executives in search of enrichment clearly demonstrates the urgency of why regulators must take swift action to finalize this pay reform rule,” authors Bart Naylor and Zachary Brown wrote.
It’s hard to know who specifically to blame for the delay, since seven agencies are involved. The SEC hasn’t been shy in challenging corporate America of late. On the other hand, Jerome Powell’s Federal Reserve, which is busily trying to cover up its own regulatory failures, could be a culprit.
In fact, Sen. Bob Menendez (D-NJ) asked chair Powell in 2018 why the incentive-based compensation rule hadn’t gotten done, and Powell said that the regulators just couldn’t achieve consensus, as if that was a satisfactory answer. He added that the Fed “expects” the largest banks have compensation plans in place to avoid excessive risk-taking and that boards of directors should ensure it. “That does not have the power of a rule,” Menendez responded.
Given all this, I don’t know why anyone with a reasonable amount of experience with the system would think that anything different would happen under Biden’s proposal for a new executive compensation rule, even if it were to miraculously advance through a divided Congress. Time and again, we have seen the regulators who sit closest to the bank and executive lobbies simply slow-walk these kinds of proposals to death.
The criminal laws offer a glimmer of hope that bankers who literally cheat their companies can be brought to justice. Our conversative courts also constitute a high bar, no question. But not a higher bar than a captured set of regulators and the corporate lobbyists who like human shields throw themselves in front of any effort to rein in compensation practices. If a failed banker’s negligence disrupted the entire economy, sending them to prison offers a stronger message than asking for some of the money they made back.
