This may be the Chinese Year of the Ox but, for many people, 2009 will be the year of the scapegoat. Having one person – or several people – at whom to direct our collective anguish will probably be one of the few things to keep us sane over the coming months.
Where the scapegoat analogy falls down, though, is that, according to its origins in ancient theology, the scapegoat is an innocent victim, punished for the crimes and sins of others. With a few minor exceptions, the bankers on the receiving end of much of our exasperation are deserving recipients.
As many companies fine-tune their remuneration reports, they should be thinking extremely carefully about how they incentivize their senior management members; bonuses don’t always reward ingenuity. It is something of a myth that bonuses foster wealth-maximizing strategies, especially in the long term. It is also a myth that bonuses necessarily lead to divergent trading and investment strategies.
For all their lofty talk of the merits of capitalism, the free market and rewarding individualism, many bankers have exhibited little more than lowest-common-denominator herd mentality. As one institution reaped the benefit of securitization, so the others blindly followed, and the rest, as we now know, is history.
Dr Paul Wilmott, an expert on quantitative finance, explains that bonuses actually encourage traders in banks to pursue identical strategies and make similar mistakes. The math behind the theory is relatively simple: even if you have a strategy that will make more money than your co-workers, you will pursue the same course as your colleagues because your probability of receiving a bonus is higher if you all follow the same course of action. Therefore, the best way to maximize your bonus is to make the same trade as everyone else. Bonuses reward mediocrity. QED.
So how should companies reward their staff to ensure value is enhanced rather than extinguished? The way firms answer this question will have a huge bearing on their performance over the coming years.
Deputy international editor