IDEAS home Printed from https://ideas.repec.org/p/cbr/cbrwps/wp256.html
   My bibliography  Save this paper

Determinants of the use of financial incentives in investment banking

Author

Listed:
  • David Nash

Abstract

This paper examines the use of incentive pay schemes within the financial services sector in London. Various theories of wage determination are reviewed with particular attention placed on the principal-agent literature as a framework for analysing the use of incentive pay. This is combined with case study interviews and a number of hypotheses regarding the use of bonuses. Quantitative analysis of a detailed industry-wide survey validates the hypothesis that those occupations where output is easily identifiable receive higher bonus pay. The proximity of an occupation to the revenue generating activity within the organisation is also found to be significant in determining bonus levels, as is job grade within the organisation. The paper concludes that principal-agent theories of wage determination are useful in understanding the use of bonus pay in the City, but need to be modified to take account of particular institutional characteristics, in particular the power of individual agents.

Suggested Citation

  • David Nash, 2003. "Determinants of the use of financial incentives in investment banking," Working Papers wp256, Centre for Business Research, University of Cambridge.
    • Handle: RePEc:cbr:cbrwps:wp256
    Note: PRO-2
    as

    Download full text from publisher

    File URL: https://www.jbs.cam.ac.uk/cbrwp256/
    Download Restriction: no
    ---><---

    References listed on IDEAS

    as
    1. Encinosa III, William E. & Gaynor, Martin & Rebitzer, James B., 2007. "The sociology of groups and the economics of incentives: Theory and evidence on compensation systems," Journal of Economic Behavior & Organization, Elsevier, vol. 62(2), pages 187-214, February.
    2. Lazear, Edward P, 1986. "Salaries and Piece Rates," The Journal of Business, University of Chicago Press, vol. 59(3), pages 405-431, July.
    3. Hubbard, R. Glenn & Palia, Darius, 1995. "Executive pay and performance Evidence from the U.S. banking industry," Journal of Financial Economics, Elsevier, vol. 39(1), pages 105-130, September.
    4. Robert Gibbons & Kevin J. Murphy, 1990. "Relative Performance Evaluation for Chief Executive Officers," ILR Review, Cornell University, ILR School, vol. 43(3), pages 30, April.
    5. Brian J. Hall, 1998. "The Pay to Performance Incentives of Executive Stock Options," NBER Working Papers 6674, National Bureau of Economic Research, Inc.
    6. Charles Brown, 1990. "Firms' Choice of Method of Pay," ILR Review, Cornell University, ILR School, vol. 43(3), pages 165-1-182-, April.
    7. Grossman, Sanford J & Hart, Oliver D, 1983. "An Analysis of the Principal-Agent Problem," Econometrica, Econometric Society, vol. 51(1), pages 7-45, January.
    8. Joseph E. Stiglitz, 1974. "Incentives and Risk Sharing in Sharecropping," The Review of Economic Studies, Review of Economic Studies Ltd, vol. 41(2), pages 219-255.
    9. Mirrlees, James A, 1997. "Information and Incentives: The Economics of Carrots and Sticks," Economic Journal, Royal Economic Society, vol. 107(444), pages 1311-1329, September.
    10. Ross, Stephen A, 1973. "The Economic Theory of Agency: The Principal's Problem," American Economic Review, American Economic Association, vol. 63(2), pages 134-139, May.
    11. Green, Jerry R & Stokey, Nancy L, 1983. "A Comparison of Tournaments and Contracts," Journal of Political Economy, University of Chicago Press, vol. 91(3), pages 349-364, June.
    12. Jensen, Michael C & Murphy, Kevin J, 1990. "Performance Pay and Top-Management Incentives," Journal of Political Economy, University of Chicago Press, vol. 98(2), pages 225-264, April.
    13. Oliver D. Hart, 1983. "Optimal Labour Contracts under Asymmetric Information: An Introduction," The Review of Economic Studies, Review of Economic Studies Ltd, vol. 50(1), pages 3-35.
    14. Garen, John E, 1994. "Executive Compensation and Principal-Agent Theory," Journal of Political Economy, University of Chicago Press, vol. 102(6), pages 1175-1199, December.
    15. John M. Abowd, 1990. "Does Performance-Based Managerial Compensation Affect Corporate Performance?," ILR Review, Cornell University, ILR School, vol. 43(3), pages 52, April.
    16. Ronald G. Ehrenberg & Michael L. Bognanno, 1990. "The Incentive Effects of Tournaments Revisited: Evidence from the European PGA Tour," ILR Review, Cornell University, ILR School, vol. 43(3), pages 74, April.
    17. Canice Prendergast, 1999. "The Provision of Incentives in Firms," Journal of Economic Literature, American Economic Association, vol. 37(1), pages 7-63, March.
    18. David E. M. Sappington, 1991. "Incentives in Principal-Agent Relationships," Journal of Economic Perspectives, American Economic Association, vol. 5(2), pages 45-66, Spring.
    19. Gary S. Becker, 1975. "Human Capital: A Theoretical and Empirical Analysis, with Special Reference to Education, Second Edition," NBER Books, National Bureau of Economic Research, Inc, number beck75-1.
    20. George A. Akerlof, 1982. "Labor Contracts as Partial Gift Exchange," The Quarterly Journal of Economics, President and Fellows of Harvard College, vol. 97(4), pages 543-569.
    Full references (including those not matched with items on IDEAS)

    Citations

    Citations are extracted by the CitEc Project, subscribe to its RSS feed for this item.
    as


    Cited by:

    1. Ivana Marinovic Matovic & Miloš Pavlovic, 2020. "Key Performance Indicators as Determinants of Managerial Compensation," Proceedings of the 18th International RAIS Conference, August 17-18, 2020 004im, Research Association for Interdisciplinary Studies.
    2. Christian Grund & Tanja Hofmann, 2019. "The dispersion of bonus payments within and between firms," Journal of Business Economics, Springer, vol. 89(4), pages 417-445, June.
    3. Grund, Christian & Walter, Tanja, 2013. "Management Compensation and the Economic Crisis: Longitudinal Evidence from the German Chemical Sector," IZA Discussion Papers 7435, Institute of Labor Economics (IZA).

    Most related items

    These are the items that most often cite the same works as this one and are cited by the same works as this one.
    1. repec:eee:labchp:v:3:y:1999:i:pb:p:2373-2437 is not listed on IDEAS
    2. repec:eee:labchp:v:3:y:1999:i:pb:p:2485-2563 is not listed on IDEAS
    3. Benno Torgler & Sascha L. Schmidt & Bruno S. Frey, 2006. "Relative Income Position And Performance: An Empirical Panel Analysis," IEW - Working Papers 268, Institute for Empirical Research in Economics - University of Zurich.
    4. Justina A.V. Fischer & Benno Torgler, 2006. "Does Envy Destroy Social Fundamentals? The Impact of Relative Income Position on Social Capital," University of St. Gallen Department of Economics working paper series 2006 2006-04, Department of Economics, University of St. Gallen.
    5. Benno Torgler & Markus Schaffner & Sascha L. Schmidt & Bruno S. Frey, 2008. "Do Employees Care about their Relative Position? Behavioural Evidence Focusing on Performance," CREMA Working Paper Series 2008-12, Center for Research in Economics, Management and the Arts (CREMA).
    6. Benno Torgler & Sascha L. Schmidt & Bruno S. Frey, 2006. "The Power of Positional Concerns: A Panel Analysis," CREMA Working Paper Series 2006-19, Center for Research in Economics, Management and the Arts (CREMA).
    7. Zhou, Xianming, 1999. "Executive compensation and managerial incentives: A comparison between Canada and the United States1," Journal of Corporate Finance, Elsevier, vol. 5(3), pages 277-301, September.
    8. Canice Prendergast, 1996. "What Happens Within Firms? A Survey of Empirical Evidence on Compensation Policies," NBER Working Papers 5802, National Bureau of Economic Research, Inc.
    9. Canice Prendergast, 2000. "The Tenuous Tradeoff Between Risk and Incentives," NBER Working Papers 7815, National Bureau of Economic Research, Inc.
    10. Taye Mengistae & Lixin Colin Xu, 2004. "Agency Theory and Executive Compensation: The Case of Chinese State-Owned Enterprises," Journal of Labor Economics, University of Chicago Press, vol. 22(3), pages 615-638, July.
    11. John M. Abowd, 1989. "Does Performance-Based Managerial Compensation Affect Subsequent Corporate Performance?," NBER Working Papers 3149, National Bureau of Economic Research, Inc.
    12. Edward P. Lazear & Paul Oyer, 2012. "Personnel Economics [The Handbook of Organizational Economics]," Introductory Chapters,, Princeton University Press.
    13. Benno Torgler & Sascha L. Schmidt & Bruno S. Frey, 2008. "The Power of Positional Concerns," IEW - Working Papers 368, Institute for Empirical Research in Economics - University of Zurich.
    14. Kevin J. Stiroh, 2007. "Playing For Keeps: Pay And Performance In The Nba," Economic Inquiry, Western Economic Association International, vol. 45(1), pages 145-161, January.
    15. Canice Prendergast, 1999. "The Provision of Incentives in Firms," Journal of Economic Literature, American Economic Association, vol. 37(1), pages 7-63, March.
    16. Edward P. Lazear, 1995. "Personnel Economics," MIT Press Books, The MIT Press, edition 1, volume 1, number 0262121883, April.
    17. Felipe Balmaceda, 2002. "Compensation Methods in a Competitive Labor Market: the Role of Asymmetric Information," Documentos de Trabajo 139, Centro de Economía Aplicada, Universidad de Chile.
    18. Felipe Balmaceda, "undated". "Compensation Methods in Competitive Labor Markets," ILADES-UAH Working Papers inv118, Universidad Alberto Hurtado/School of Economics and Business.
    19. Bushman, Robert M. & Smith, Abbie J., 2001. "Financial accounting information and corporate governance," Journal of Accounting and Economics, Elsevier, vol. 32(1-3), pages 237-333, December.
    20. Robert Gibbons, 1996. "Incentives and Careers in Organizations," NBER Working Papers 5705, National Bureau of Economic Research, Inc.
    21. Michael Waldman, 2012. "Theory and Evidence in Internal LaborMarkets [The Handbook of Organizational Economics]," Introductory Chapters,, Princeton University Press.
    22. Christian Bayer & Carsten Burhop, 2008. "A Corporate Governance Reform as a Natural Experiment for Incentive Contracts," Schmalenbach Business Review (sbr), LMU Munich School of Management, vol. 60(4), pages 378-399, October.

    More about this item

    Keywords

    Incentive pay; principal-agent theory; investment banking;
    All these keywords.

    JEL classification:

    • G24 - Financial Economics - - Financial Institutions and Services - - - Investment Banking; Venture Capital; Brokerage
    • J31 - Labor and Demographic Economics - - Wages, Compensation, and Labor Costs - - - Wage Level and Structure; Wage Differentials
    • J33 - Labor and Demographic Economics - - Wages, Compensation, and Labor Costs - - - Compensation Packages; Payment Methods
    • M52 - Business Administration and Business Economics; Marketing; Accounting; Personnel Economics - - Personnel Economics - - - Compensation and Compensation Methods and Their Effects

    NEP fields

    This paper has been announced in the following NEP Reports:

    Statistics

    Access and download statistics

    Corrections

    All material on this site has been provided by the respective publishers and authors. You can help correct errors and omissions. When requesting a correction, please mention this item's handle: RePEc:cbr:cbrwps:wp256. See general information about how to correct material in RePEc.

    If you have authored this item and are not yet registered with RePEc, we encourage you to do it here. This allows to link your profile to this item. It also allows you to accept potential citations to this item that we are uncertain about.

    If CitEc recognized a bibliographic reference but did not link an item in RePEc to it, you can help with this form .

    If you know of missing items citing this one, you can help us creating those links by adding the relevant references in the same way as above, for each refering item. If you are a registered author of this item, you may also want to check the "citations" tab in your RePEc Author Service profile, as there may be some citations waiting for confirmation.

    For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: Ruth Newman (email available below). General contact details of provider: http://www.jbs.cam.ac.uk .

    Please note that corrections may take a couple of weeks to filter through the various RePEc services.

    IDEAS is a RePEc service. RePEc uses bibliographic data supplied by the respective publishers.