Britain’s financial regulators have confirmed that the cap on bankers’ bonuses will be scrapped from next week as part of a post-Brexit bid to boost the attractiveness of the City of London.
Since 2014, under rules inherited from the European Union, banks, building societies and investment firms have had to limit bonuses for employees to two times their base salary. The EU brought in the policy to try to deter bankers from the type of risky behaviour that caused the 2008 financial crisis.
But the Financial Conduct Authority (FCA) and the Prudential Regulation Authority (PRA), after almost a year of consultations, have now decided to get rid of the cap from October 31.
The regulators said they approved the changes to “strengthen the effectiveness of the remuneration regime” by allowing banks to increase how much of their staff’s pay is linked to performance.
They added that the changes should “also help remove unintended consequences of the cap”, with most lenders having had to increase the base pay for their workers to make sure they were not losing out because of the policy.
But fixed pay cannot be as easily tweaked in response to changes in the event of a downturn, for example; nor can it be so readily clawed back if poor performance or misconduct subsequently comes to light.
The cap on bonuses was never popular in either Westminster or the City of London. In the year the cap was introduced, George Osborne, who was then chancellor, described the measure as “entirely self-defeating” and tried unsuccessfully to overturn it. Andrew Bailey, who is now the Bank of England’s governor, led the central lender’s prudential regulation authority at the time and called the EU’s bonus regulations the “wrong policy”.
Politicians were worried that London was losing business and talent to rival financial centres such as New York and Hong Kong because of the cap. Banks were against it because it meant that they had to increase fixed salaries — although that was a boon for staff, who could be much more certain how much money they would be taking home each year.
The scrapping of the cap was first revealed last year by Kwasi Kwarteng when he was the chancellor. It was a key part of his plan to make post-Brexit Britain more competitive as a financial centre by taking advantage of the UK’s freedom to make its own rules after leaving the EU.
However, despite banks’ initial unhappiness when the cap was introduced, it remains to be seen whether many lenders will now want, or be able, to alter their pay structures once again.
“I very much doubt that there’ll be a dramatic shift back to the pre-financial crisis days of low base salaries and high bonuses,” Suzanne Horne, an employment lawyer at Paul Hastings, said.
Anne Sammon, a partner at Pinsent Masons, warned that the changes could lead to a “two-tier workforce”, where new employees are paid lower salaries but with higher bonuses than their colleagues.
“Firms will need to be mindful of flouting equal pay laws in these circumstances — where employees are doing similar roles but being paid lower salaries,” she added.
Commenting on the government’s decision, Julian Jessop, Economics Fellow at the free market think tank, the Institute of Economic Affairs, said: “Scrapping the bankers bonus cap is common sense. It is a clumsy rule whose costs far outweigh any potential benefits. Its removal will further strengthen the competitiveness of the UK financial sector and increase tax revenues, so it is not just bankers who will benefit.
“The cap has led firms to increase basic pay and made it harder for them to adjust variable pay. This has added to fixed costs and reduced the flexibility to respond to different financial conditions and to reward outstanding individuals appropriately.
“There are also now many more effective ways to prevent excessive risk-taking, including the ‘Senior Managers Regime’ (which makes top staff directly accountable to regulators) and deferred bonus schemes (which allow excessive payments to be clawed back later).”
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Cap on bankers’ bonuses to be scrapped within days