About one week ago I wrote about Credit Suisse and the issues they were facing that has led to reduced bonuses for the very top of the bank as well as the loss of employment for many responsible for the activities that have led to losses. Today the Financial Times reported that these losses have led to a reduction in the bonus pool for all of its staff – an estimated reduction of $600 million in the bonus pool. As noted in the FT article: “(I)ts top executives face a dilemma over paying out bonuses to support staff morale, while shareholders nurse losses tied to the fallout from Archegos and Greensill.”
This dilemma highlights an important change in the investment banking culture that has arisen from the shift from an ownership form that was primarily partnerships to one that is primarily publicly owned banks. That shift in ownership structure occurred more or less simultaneously with the end of Glass-Steagall in the United States and the Big Bank in London. Whilst much of the criticism over the current structure of the financial industry focuses on those two changes, it could be argued that the end of partnerships are just as responsible for the excesses and problems that arise in the financial system.
Under a partnership gains and losses from business were shared among the partners. That approach built into the business a natural risk management function as partners and those seeking to be partners acted responsibly to curb risk activities that could lead to losses. The current structure with public ownership eliminates that natural (and one could argue more effective) form of risk management. Under public ownership the upside goes to the staff (or at least the highly paid and powerful members of staff) and the downside goes to the shareholders. If the problem is serious enough the downside is covered by public funds to ensure that a too big to fail bank survives.
So as we look for solutions to the underlying issues facing the banking industry, perhaps a return to true partnerships for investment banking activities should be considered.
