The North American investment banks have changed their method of paying their ‘star’ operators in spite of the drop in revenue resulting from the crisis in the emerging markets. The Merrill Lynch investment bank informed its staff in a memorandum that is published today in The New York Post that it will no longer be paying its stock exchange brokers and financial analysts an annual bonus.
“From now on, a complex mechanism will be used linking the company’s earnings with those of each of its executives. Citigroup too has announced a change in its payment structure whereby the traditional annual bonus will be replaced by a system that retains worker earnings for a longer period and that is more in line with the total earnings of the company”.
Explain what might be the tradeoffs involved in this change in the old system and what consequences might the new payment system bring.
There are two changes. First, the move from individual to team bonuses probably reduces externalities (e.g., stealing clients) and motivates cooperation but at the cost of increasing free riding. Second, the move from short to long term bonuses might help in avoiding “shortermism” (risky bets, especially). It could also introduce a career element, with deferred compensation. This would substantially modify the employment relation in an activity that has been usually characterized by a very high turnover rate.
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