Residual claimants

There is a well-expressed idea embodied in a dissident shareholder motion for the forthcoming Deutsche Bank AGM, as reported by the Financial Times.  It gets at the consequences for and role of shareholders in the global banking crisis.  The article explains —

Deutsche Bank faces calls to spin off its investment banking activities within two years and pull back from the US, under proposals put forward by activist shareholders at its forthcoming annual meeting.

The demands come from Ekkehard Wenger, a university professor and a prominent champion of change at many of Germany’s biggest companies for two decades, and Leonhard Knoll, a fellow academic, who liken the investment banking industry to football where “everything is distributed to the players and nothing is left for the club”.

In particular, the shareholders have gotten saddled with substantial losses from DB’s American investment banking business, even while the investment bankers walked away with huge bonuses.   Yet US Treasury Secretary Henry Paulson has repeatedly claimed that any moral hazard in the Bear Stearns case was taken care of by the fact that the shareholders lost so much

“What I would say is, if you would ask the Bear Stearns shareholder in terms of what has happened to their value, that I don’t think any of them would think that this has been a good outcome for them,” Mr. Paulson said.  “And when we talk about moral hazard, I would say look at the Bear Stearns shareholder,” Mr. Paulson went on. “This is what happens when there is a liquidity problem, and there was a liquidity problem.”

Yet, as the DB case indicates, the shareholders are hobbled by moral hazard within the bank, an issue ignored by the Paulson talking point.  One could argue that since the shareholders are the ultimate owners, it’s up to them to sort incentive problems with their employees.  Yet the football club analogy shows that something else is at work: a system in which “star” investment bankers manage to extract much of their value in compensation, leaving their nominal owners with relatively little to compensate for all the risk that was taken on.   Maybe it will sort itself out as banks reform themselves.  But it’s noteworthy how little the proposals to deal with the credit crisis have to say about corporate governance.


One thought on “Residual claimants

  1. Relatedly, in the Netherlands activist shareholders at several companies including Philips have defeated proposals to up the rewards for higher management.

    Personally I can’t care too much for the poor shareholders: did they think they were entitled to evergrowing profits with no risk?

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