Events

This paper examines the effect of recent regulations on executive incentive compensation contracting among US banks. Following regulations intended to prevent incentive compensation arrangements that encourage imprudent risk-taking, I test whether pay-for-performance is weaker and the penalty for downside tail risk is stronger in the post-crisis period as compared to the pre-crisis period. Specifically, I compare the impact of the regulations on large banks versus three control groups: small banks, insurance firms, and matched non-financial firms, to control for concurrent events. Consistent with regulatory intent, I find strong evidence of weaker pay-for-performance and larger penalties for downside tail risk for CEOs of large banks following passage of the regulation, as compared to control firms. Finally, the impact of the regulations appears to vary across the different CEO compensation components, with the increased penalty for downside tail risk affecting salary but not option grants. Together, the results provide evidence on the effectiveness of new regulations in curbing bank CEOs’ incentives, as well as introduce downside tail risk as a determinant of compensation in the banking industry.