Pay for no performance? Executive pay and performance in EU banks

Existing corporate governance structures mainly focus only on the relationship between managers and shareholders, with little emphasis on debt holders. While this reflects the nature of the capital structure for a majority of firms, banks operate differently and are highly leveraged. However, the different balance of risk bearing by the shareholders and debtholders for banks is not reflected in contemporary corporate governance in large corporations today. In this study, we examine the pay-performance relationship taking into consideration special governance structures in place in the banking sector, for a sample of 65 EU banks and bank holding companies between 2000 and 2010. The sample of EU banks also allows for the plurality of governance structures. Using a 3SLS estimation to cater for endogeneity problems that have plagued prior work, we find no evidence of a contemporaneous relationship between bank performance and pay, suggesting that bank executives are paid independent of past and expected future performance. Instead, we find the driving factors behind executive pay levels to be board size, managerial ownership, bank size, capital ratios and dividend status. The 3SLS estimation also allows us to shed light on the complementarity and substitution effects of different governance mechanisms in the banking sector, providing further evidence that governance relationships cannot be examined in isolation