Sunday, 29 March 2009

Bonus time

Bonuses have been in the news a lot recently. The accepted view appears to be that to provide a bonus to a member of staff is fine as long as it is rewarding success and not failure.

In fact, if governments had not moved in to bail out some banks, the rewarding of failure may have remarked on and annoyed some people but that would be all. What really led to the recent indignation was the fact that taxpayers' money was going towards providing bonuses to staff in 'failed' banks.

As a parenthesis, one thing that hasn't been explored is the impact of the media on all this. There has been discussion about whether reports by some journalists made things worse: Robert Preston's reporting of the run on Northern Rock. But has the media also stoked up the outcry over the bonuses? No doubt, someone is studying that question right now and will produce an interesting answer.

Back to rewarding success and penalising failure.

I should declare no interest here. I don't know how the bonus structure works in financial institutions and I don't know if the bonuses are being paid out for past endeavours what would have been successes if the whole thing hadn't crumbled around us. Part of the reason, I don't know this is because the media haven't said.

At the moment, there is talk of greater regulation and the desire not to incentivize short term behaviour i.e. control bonuses. This looks likely to be done by regulatory authorities and not the businesses themselves.

This means that regulators must be very clear about what success is.

Is that very hard?

It might be and here is why.

A company might wish to reward failure. If they do, why shouldn't they be allowed to?

Let's say part of an employee's annual bonus is based on the level of customer satisfaction fed back to the organisation through a quarterly survey. Another part of the bonus is based on income generated.

It may be that the employee achieves exceptionally high ratings for customer service because she tells her customers that the service or product isn't right for them, thus reducing income. In one sense she is helping failure.

Knowing what is best is a difficult thing. Many experts disagree on a whole range of things. They disagree because they see the world differently, are aligned to a political movement or have experienced something that leads them to think the way they do. These are the experts, what hope is there for the rest of us?

A sideways view comes from Ian Parker-Joseph, the leader of the UK's Libertarian party. He argues that the credit crunch was caused because the financial system incentivized debt. If that is correct, it could mean that no amount of regulation can ever guarantee it won't happen again. His solution is very different from the Keynesian approach. Would it work? I don't know. And that is partly my point. How can we know how everything will work, what effect is produced by cause?

The bonus system, the bail-out and the seemingly strange workings of our financial markets appears to have upset a lot of people. Is this reaction yet another example of the public's short attention span, Jade Goody this week, Sir Fred Goodwin the next, or is there a real groundswell of discontent?

Whatever the answer, we need to bear in mind our limitations when setting out our future economic direction.
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