Along with many others, this column has pointed to the perverse incentives offered by the bubble-era Wall Street and City compensation schemes. The annual bonuses, or managing partners’ carried interests, could be collected from the short-term profits of risky investment strategies. Then, when the losses come round, the cynical trader or portfolio manager exercises the “resumé put option”, leaving for the next job with his swag, showing the investors, creditors, and taxpayers a clean pair of heels. It has been widely assumed that this describes what was going on at AIG Financial Products.
In the future, reformers on left and right agree, traders and investment managers should have their interests forcibly aligned with the investors, and in the event of systemic risk, the taxpaying public. Therefore, most of the compensation for these carnivores should be held back for years, until it is clear that there are no time bombs or postponed losses.