Fed proposes bank-pay guidelines

The Federal Reserve on Thursday moved to limit risky pay practices at all the nation’s banks even as the Treasury’s executive paymaster announced drastic cuts in pay for the biggest government bailout recipients.

Altogether, the pay curbs represent an unprecedented move by the government to rein in the questionable pay practices that contributed to the financial crisis, particularly among the largest banks and Wall Street firms whose traders reaped big short-term profits and bonuses even as they created huge long-term losses for the banks.

While the pay cuts ordered by Treasury pay czar Kenneth Feinberg target three of the largest culprits — Citigroup, Bank of America and American International Group — the Fed’s move affects a much wider swath of the financial sector and will have a more lasting effect in limiting pay at banks and Wall Street firms.

Fed Chairman Ben S. Bernanke, who has been nominated for a second term and faces strong criticism from some quarters in Congress, has been under the gun for not using the Fed’s sweeping powers over banks and Wall Street firms to curb risky practices in the past. The Fed’s move Thursday appears aimed at stifling that criticism.

The Fed said it would conduct a comprehensive review of pay practices at the 28 largest bank-holding companies — which include all the major Wall Street firms such as Goldman Sachs and Morgan Stanley — with an eye toward flagging risky practices and requiring the banks to curb them.

Smaller, community banks also regulated by the Fed — most of which played no part in the financial crisis — will receive lighter reviews and recommendations from the central bank. The Fed is among the most powerful bank regulators, and under the threat of enforcement action, banks are expected to quickly adopt any changes the Fed deems necessary.

“Compensation practices at some banking organizations have led to misaligned incentives and excessive risk-taking, contributing to bank losses and financial instability,” Mr. Bernanke said. “The Federal Reserve is working to ensure compensation packages appropriately tie rewards to longer-term performance and do not create undue risk for the firm or financial system.”

The Fed’s move came as Mr. Feinberg announced cash pay cuts of as much as 90 percent for the top 25 executives at the seven corporations that received the most government aid, starting next month. The slashed compensation will serve as the basis for salaries next year and for as long as the firms benefit from government bailouts, he said.

Cash salaries were limited to $500,000 for more than 90 percent of relevant employees, and average total compensation was down by more than 50 percent under the Feinberg plan, which was worked out in negotiation with each company. General Motors, Chrysler and their financial subsidiaries also are subject to the pay restrictions.

“I am extremely sensitive to the public outrage,” Mr. Feinberg said, adding that his goal is to replace cash compensation as much as possible with stock grants that align the interests of executives with the long-term interests of stockholders. The executives would not be allowed to quickly cash in their stock compensation to make a quick killing on quarterly changes in profits and revenues.

Mr. Feinberg said he hopes the drastic changes in compensation he is ordering at top financial firms sets an example for other firms on Wall Street. But there is little evidence that is the case. Goldman Sachs, JP Morgan and other big firms paid off their obligations to the government earlier this year precisely so they could continue to offer huge bonuses and awards to their most productive employees.

How those Wall Street firms will be affected by the Fed’s restrictions remains to be seen.

Treasury Secretary Timothy F. Geithner suggested that one of the goals of the stiff cuts ordered by Mr. Feinberg is to prompt the most heavily indebted companies to repay the government quickly. Bank of America already has stated its hopes to do so, but GM, Chrysler, Citigroup and AIG are considered a long way from being able to repay their bailout cash.

“We all share an interest in seeing these companies return taxpayer dollars as soon as possible, and Ken today has helped bring that day a little bit closer,” Mr. Geithner said.