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Here's one simple reason why some bankers acted so recklessly in recent years: They were paid to do it. Pay scales with lavish rewards for short-term profits and with little regard for risk are now seen as a major factor in the global financial meltdown.
Leaders at today's G-20 meeting say one way to stabilize the system is to change the way banks pay their employees. As NPR's Scott Horsley reports, the bankers' challenge has a useful sports parallel on the basketball court.
SCOTT HORSLEY: A few weeks ago, business and sportswriter Michael Lewis published a story in the New York Times Magazine about Houston Rockets forward Shane Battier.
(Soundbite of basketball game)
Unidentified Man #1: It's Battier for three! Oh, what a shot by Battier!
HORSLEY: What makes Battier special is not captured on any highlight reel. His individual stats, for points, rebounds and the like, are unremarkable, but he has an uncanny ability to help his team win.
The point of Lewis's story is that those individual stats, while easy to measure and reward, are not what's really important. In fact, if a player's bonuses are tied too closely to individual stats, they can actually end up rewarding actions that hurt the team in the long run.
To University of San Diego law Professor Frank Partnoy, that sounds a lot like Wall Street.
Professor FRANK PARTNOY (University of San Diego): I think there are a lot of parallels between the NBA and the MBA. These are markets where the superstars are going to take home the highest amounts of compensation and they're going to feel like they're worth it.
HORSLEY: Partnoy says just like a ballplayer who gambles on a bad shot instead of passing to an open teammate, Wall Street bankers face a constant temptation to pad their own stats and bonuses, even at the expense of their team.
Mr. PARTNOY: Maybe juice up their returns for a year, take on excess risks for a year, make that big bonus over the short term and have their team suffer or their bank suffer in the long term.
HORSLEY: Partnoy's been there himself. He used to trade derivatives on Wall Street. For bankers, he says, the size of one's annual bonus is a critical way of keeping score.
Mr. PARTNOY: These folks are as close to rational economic actors as you can possibly get. If you give them an incentive, if you ring the bell, if you put a plate of food in front of them, they are going to respond.
And that's why it's so important to make sure that the incentives are structured in a way to have them think not just about their own bottom line, month by month, but to think about the long-term viability of their bank.
HORSLEY: And the long-term viability of banks is pretty important. A selfish basketball player can cost his team a shot at the playoffs, but bankers who play for themselves can put the whole economy at risk.
Bankers have come to realize this. In a survey released this week by the Institute of International Finance, 98 percent of bankers agreed: the structure of their compensation may have contributed to the economic crisis. The institute's George Abed says bankers were handsomely rewarded for actions that goosed profits even if those gains were only temporary.
Mr. GEORGE ABED (Institute of International Finance): There was a headline in the New York Times I think a few weeks back: Banks' Profits Were Illusory But the Bonuses Were Real.
HORSLEY: Regulators say there is no one-size-fits-all solution, but bank bonuses should be adjusted to reflect the risk that a banker is taking on, and if the outcome of that risk won't be known for several years, then a chunk of the bonus should be postponed as well.
In the past, banks were reluctant to make such changes for fear of losing employees to the competition, but Abed says with so many bankers out of work these days it's a good time to rethink the way that work is rewarded.
Mr. ABED: We will definitely reduce the risk of reckless behavior, and we will reduce the risk of systemic instability arising from mismanaged or badly managed incentive systems. Every crisis provides an opportunity to learn and an opportunity to correct, and I think this definitely is one.
HORSLEY: So far, much of the anger in the U.S. has focused on the size of executive bonuses. But President Obama also wants to take a look at what bankers are rewarded for. He wants to change what he calls a culture of narrow self-interest and short-term gain at the expense of everything else.
President BARACK OBAMA: We're going to take a look at broader reforms so that executives are compensated for sound risk management and rewarded for growth measured over years, not just days or weeks.
HORSLEY: And that means celebrating not the short-sighted superstars but the less obvious and more long-lasting winners.
(Soundbite of basketball game)
Unidentified Man #1: Here's Battier for three in front of the bench of the LA Lakers.
Unidentified Man #2: What an incredible shot by Shane Battier. Now, the one…
HORSLEY: Scott Horsley, NPR News, Washington.
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