Banking Bonuses and the Financial Crisis Essay

Banking Bonuses and the Financial Crisis Essay

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The bonus culture & management incentives in banks were a key factor in the Irish and US Crisis. The system was flawed from the beginning; bankers took risks to get short term bonus, with no regard to long term consequences to the economy. Within the financial system the bonus culture is unique. The banks present a high percentage of it award based on bonus driven remuneration. For the employees of the bank it became a high percentage of their annual salary. This gave bank employees the incentive to offer risky loans and mortgages.

During the boom years from the mid 90’s to 2006 in the U.S. housing market experienced a boom. During this period many mortgages were offered to people who were in the high risk category of defaulting. This was very relevant in the investments bankers took, including in the profile of mortgages they gave out. The culture that evolved was get as many mortgages on the books as possible, even if the recipient of the mortgage was not a sound investment and in many cases had not the wages to cover the mortgages they received from the banking institutions. Ridiculous coverage of 100% mortgages was being issued to folks who could never ever pay back the loan. These customers did not have to go through the normal credit checks, these loans became known as subprime loans. These high risk mortgages were processed as securitisation; this is a financial practice of combining mortgages into one large pool. Most of the pools became mortgage – backed security (MBS) and were traded on the financial markets by firms such as Fannie Mae and Freddie Mac. These MBS delivered high rate of return for the traders increasing their bonus but were not sound investments for the bank. This careless disregard of the compan...


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... to guarantee these banks & their debts, economies & Countries would collapse. Society as a whole could have collapsed. The situation was a loaded gun and the pulling of the trigger started by bankers being greedy by trying to get the biggest bonus and not being regulated when making investments that went bad. See Fig 6 Bank Run Northern Rock

References
1. http://www.un.org/esa/desa/papers/2012/wp115_2012.pdf
2. http://www.theguardian.com/business/2013/feb/28/bonuses-the-essential-guide.
3. http://en.wikipedia.org/wiki/Subprime_lending#Subprime_crisis.
4. http://www.theguardian.com/business/2013/feb/28/european-union-cap-bankers-bonuses.
5. http://www.davidmcwilliams.ie/2013/06/27/how-the-banking-collapse-turned-into-a-dramatic-hostage-crisis.
6. Philippon and Reshef (2009)
7. Crotty (2009)
8. Bebchuk, Cohen and Spamann (2010)
9. (Acharya, 2009).

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