Public outrage has boiled over as billions of dollars in bonuses have been handed out on Wall Street, the center of the 2008 financial storm that contributed to the worst recession in generations and left millions of people jobless.
Even President Obama joined in, labeling the $18.4 billion in bonuses "shameful" and calling on Wall Street to "show some restraint." Seizing on the populist anger, lawmakers put together a compensation-reform bill that passed the House of Representatives on July 31 and will be brought to a vote in the Senate after the summer recess.
Still, despite all the apparent momentum building to rein in runaway pay, it looks as if Wall Street's compensation practices will largely emerge unscathed. Critics say the bill's key proposals, though well-intentioned, are non-binding, so companies can choose to ignore them. And Wall Street executives, seemingly unconcerned about further antagonizing an already agitated mob, are gearing up to boost pay. Some top firms that just last year received billions in government bailout money are thriving again and appear undaunted by the widespread criticism of big paychecks. Consider:
•Flush from two quarters of profits and having repaid the government its bailout money, Goldman Sachs has set aside $11.36 billion for compensation and benefits in the just first six months of the year, a 33% increase from last year.
•JPMorgan Chase, which also has paid back taxpayer money, reported record second-quarter revenue and has carved out $14.5 billion for pay in the first half of the year, up 22%.
•While Morgan Stanley, too, has repaid the government, the bank recorded its third-consecutive loss in the second quarter. Despite that, the bank has set aside $6 billion so far this year for compensation expenses, and $3.87 billion just in the second quarter, which represents 72% of its revenue.
"The Wall Street community is not particularly plugged into the public sentiment," says Peter Cappelli, management professor at Wharton business school. "It's a culture that hasn't cared very much about the political realities elsewhere."
Little correlation between pay, performance
Officials have blamed Wall Street's pay structure for making the financial crisis worse. Treasury Secretary Timothy Geithner said the compensation practices "encouraged excessive risk-taking." Lured by big bonuses, increasingly large numbers of bankers took risks that led the U.S. to the brink and a $700 billion government bailout for the industry.
Wall Street banks typically set aside more for compensation than other industries — about 50% of revenue to pay employees. However, the largest companies that make up the S&P 500 spend less than 22% of revenue on all indirect costs, which includes salaries, commissions and other overhead, according to a USA TODAY analysis of data from Standard & Poor's Capital IQ.
Bankers say they have to pay more to retain top talent. In Morgan Stanley's annual report, it says: "In order to attract and retain qualified employees, we must compensate such employees at market levels. Typically, those levels have caused employee compensation to be our greatest expense." The banks also say that pay is directly linked to performance and that if they don't retain qualified employees, performance could be affected.
However, studies have found that there is little correlation between pay and performance on Wall Street, and bankers win no matter which way the market goes. On July 30, New York Attorney General Andrew Cuomo released results of a nine-month investigation of the first nine banks that received bailouts from the government's Troubled Asset Relief Program (TARP). His report found that banks paid out bonuses even while running at a loss, and at those that did post positive income, annual bonuses exceeded the entire year's profit.
At Citigroup, despite the $27.68 billion in losses last year, the bank paid out $5.33 billion in bonuses, of which about 738 employees each received $1 million or more. JPMorgan earned $5.6 billion in the year and paid out $8.69 billion in bonuses. The bank also had more seven-figure earners than any of its competitors — 1,148 employees received $1 million or more. Goldman earned $2.3 billion and paid out $4.8 billion in bonuses, with 212 employees earning $3 million or more.
Cuomo says his analysis makes it clear that "there is no clear rhyme or reason to the way banks compensate and reward their employees. ... Compensation for bank employees has become unmoored from the banks' financial performance."
Throughout this year, there have been plenty of other revelations about Wall Street excesses. One example that only seemed to get uglier as more details emerged was what happened at Merrill Lynch before and after it was forced to sell itself to Bank of America to avoid collapse.
In the final three months of 2008, as BofA was trying to close the purchase, Merrill lost $15.3 billion — bringing its losses for all of 2008 to a record $27 billion. Yet, Merrill CEO John Thain pushed through $3.6 billion in bonuses to Merrill employees days before the merger with BofA closed on Jan. 1, 2009. The merger cost American taxpayers $20 billion in cash and an agreement by the government to share in losses that totaled $118 billion.
It also damaged the reputation of BofA CEO Kenneth Lewis. He had to relinquish the title of chairman in April and since then has faced calls to step down as CEO. The bank is being investigated by Cuomo and by Congress because of the Merrill bonus payments and losses that weren't disclosed to shareholders. Last week it paid a fine of $33 million to the Securities and Exchange Commission to settle a court complaint that BofA had misled shareholders about what it knew about the bonuses.
Lawmakers don't want to rock economy's boat
Even as Wall Street is increasing its compensation and lawmakers are criticizing it for doing so, Washington, too, seems to be shying away from imposing harsh curbs on pay. The key reason is that lawmakers are fearful that tough pay curbs might get in the way of the financial services industry helping foster an economic recovery.
"It is a nightmare situation — nobody wants these firms to fail, which would lead to a bigger economic and political disaster; on the other hand it's embarrassing that they are already deciding to pay themselves more for doing well," says Alan Johnson of compensation consultant Johnson Associates.
Critics say the compensation-reform bill lacks teeth. Sponsored by Rep. Barney Frank, D-Mass., the Corporate and Financial Institution Compensation Fairness Act of 2009 has provisions that affect all publicly traded companies, and there are special provisions for financial institutions.
The bill doesn't place any caps on pay. Rather, it requires that shareholders vote on compensation of senior executives. That's because, as Frank notes, the amount of compensation at banks is not "a public decision, rather it's up to shareholders." However, the votes are non-binding, and boards of directors at the companies can choose to ignore them. At least one prominent shareholder is already saying that it would be impossible for it to be effective.
The pension fund of The United Brotherhood of Carpenters and Joiners of America has assets of $40 billion and holds shares of 3,603 companies. Douglas McCarron, the fund's president, says it would be a "challenge" to undertake a level of research and analysis required to vote on the pay plans of all the companies in which it owns shares. He says the fund might end up voting at thousands of the companies it invests in based on a simple checklist.
"Such an action will undermine the goals that motivated the work to improve compensation disclosure," says McCarron, in a letter to the SEC.
Opponents of the bill say there are a lot of unanswered questions that they hope the Senate will address when it debates the legislation. "Part of the problem is that I don't recall any expert testimony on any of the pieces of the bill, nor have we held any hearings on compensation specifically," Rep. Scott Garrett, R-N.J., says.
Bankers win no matter what happens
It's also unclear how, exactly, banks that still have TARP funds will see their compensation affected. The government has appointed Kenneth Feinberg as pay czar to monitor pay at banks and auto companies that have not repaid government bailout money, and he has yet to publicly take any action.
The Treasury has proposed that executives at these firms get no bonuses or retention and incentive awards, and in some cases they might even have to pay back past bonuses. Seven companies have until Thursday to submit proposed compensation details for the 100 highest-paid employees within the firms. While Feinberg has the power to make sure pay doesn't reward risky behavior and to even take back pay that was undeserved, it is unclear what he will do with the information.
"Feinberg has broad authority to make sure that compensation at those firms strikes an appropriate balance," says Treasury spokeswoman Meg Reilly. "Obviously, we all have a shared interest in ensuring that those companies can return to profitability as soon as possible so that taxpayers can recoup their investment."
But neither Feinberg's appointment nor the bill that awaits the Senate addresses the fundamental problem that fueled the anger, which is that traders and executives at these firms end up winning both ways. As Cuomo said in his report, Wall Street compensation is a proposition in which "heads I win, tails you lose."
Most of the biggest banks declined to comment. But at Goldman Sachs, "The correlation between our net revenue and compensation has been 99% since the firm went public in 1999," says spokesman Lucas Van Praag. "This is hard proof that pay is directly linked to performance."
Criticism is focused on more than the industry's big players. An Aug. 4 report from compensation consultants Presidio Pay Advisors analyzed 115 banks that received TARP funds. The report, like Cuomo's, found no correlation between pay and performance at the banks in the last three years.
"Wall Street's economic well-being is totally based on taxpayers' money saving them from disaster, and they've already forgotten that," says Stephen Lerner, who directs the financial-reform campaign at union group SEIU. "Americans lost trillions of dollars in wealth from the economic collapse, and while Wall Street got bailed out, it will take years for workers on Main Street to get jobs and work their way out of this economic catastrophe."
Contributing: Matt Krantz