Is the aim of BEAR simply to remove the risk of betting the farm and drive banks to become more utility like in terms of returns, writes Keith Rovers, partner at MinterEllison.
The BEAR will only apply to the banks and its subsidiaries.
The apparent logic being that this is the only part of the finance sector that has an implicit (or explicit) government guarantee in relation to the deposits held by lenders.
So, whilst there have been recent problems in life insurance, wealth management and other aspects of the financial services market, it is the tax payer 'subsidised' bank that needs to be more closely watched and man-handled.
So, should it have wider application to other financial sector participants – and beyond? Will the BEAR deter people joining banks and therefore adversely impact the talent pool for that market?
What does this regime do to management's responsibility in relation to their Accountable Person teams – given annual certification and registration requirements – and APRA's ability to disqualify?
In the late 1970's, "agency theory" was postulated as a means of aligning the interests of management and owners through stock based compensation and the singular corporate purpose and duty became maximising shareholder value.
This process, for publicly traded companies, inextricably linked the 'real market', where goods and services are traded, to the 'expectations market', the stock or share market, where expectations of future value or stocks are traded on the basis of share price.
Since then, we have seen the 1987 stock market crash, 1990s Savings & Loans collapse, the 2000s Dot Com bust and the 2007-08 global financial crisis.
Stock market volatility has also been ratcheted up with the leverage and short-term trading strategies of the 2/20 hedge fund model and "moral hazard" spread with the repeal of Glass Steagall removing the link between trading and investment banks and the notion of "too big to fail".
Fixing the game
In Roger L Martin’s 2011 book “Fixing the Game”, Martin used the analogy of the NFL (in Australia, think NRL and note recent gambling and drugs scandals and links to organised crime) and its strong separation of the game (the real market equivalent) and the gambling market (the ‘expectation market' equivalent) as a means of contrasting customer centric models and a regulatory framework designed to protect the game.
In the book, he writes about the robust steps taken by the game's administrators to protect the integrity of the game by vigorous maintenance of that separation through restrictions on betting and information sharing.
Martin also makes some interesting observations on the fan (customer) centric approach of the NFL, its continual adjustment of the rules of the game to balance offence and defence and the idea of "customer delight" over maximising owner (shareholder) returns.
Contrast this to public markets with its embedded linkages through stock option compensation, investor briefings and expectations management or massaging techniques and accounting tricks, with much of management time and, most critically, remuneration being driven by share price movements.
Martin’s reflections on the bankrupt and now defunct notion of shareholder primacy and a broader engagement of stakeholders is also spot on.
He writes about delighting customers and then employees in the interests of serving customers, before shareholders – who should expect a fair rate of return having regard to other capital deployment opportunities.
Okay, so the Australian market is different to the USA and Europe – it is much smaller, and we survived the GFC but culture issues are still being played out, with remuneration and poorly conceived incentives playing a part.
There are still issues to be considered and a big drive to "fix" culture and re-build trust around the right incentives and longer-term sustainability.
As the saying goes, the "USA sneezes and we catch a cold" - albeit now with a China flu jab - we are an integrated part of the global economy but being such a small part, we simply ride the tide of the global roller-coaster.
So, so do our executives have control of the relevant levers to drive the right performance and behaviors?
What should remuneration and incentive structures look like?
In designing rem structures how much control does management really have?
What metrics and what levers can be pulled - and do these relate to real economy measure or measures in the expectations market?
Does the BEAR provide a useful response to these issues for banks?
Deferred remuneration, vesting and claw backs all have some logic – the longer deferral means that sustainable decision and succession planning become more critical.
But, will current executives have that degree of control since Australia is part of a global market subject to being buffeted by international headwinds?
As an executive do I "bank" that variable rem or discount it heavily? And, if the later, is the incentive so diluted as to be meaningless? Will the clawbacks be enforced and by whom?
Or, do I simply ratchet up my base pay and simply take the bonus if it ever comes in? The performance incentive is diminished, but is this a good outcome?
Is this what BEAR and the Government is driving? Is the intention simply to remove the "risk of betting the farm" and drive banks to become more "utility like" in terms of returns?
Is this good for the broader society in the longer run and will this promote the ring fencing or breaking up of banks so that the riskier business is free to be carried out in another structure – mirroring the Glass Steagall approach?
So, going back to first principles how should we design meaningful rem structures that encourage the right performance and risk behavior having regard to control factors and our place in the global market?