Big Banks Mean Big CEO Compensation Packages

Yesterday, Felix Salmon wrote about a Bank of America CEO Ken Lewis appearance in which Lewis bragged about B of A’s massive size and commented:

Lewis was grinning from ear to ear when he said this — as though it wasn’t a highly embarrassing admission that his bank is far too big to fail and therefore poses an enormous systemic risk. If you needed any evidence that Ken Lewis still doesn’t Get It, you don’t any more: he’s still of the mindset that bigger is better. Hell, he probably still thinks that buying Merrill Lynch was a Really Good Idea.

I don’t know what the best way might be of cutting BofA down to a manageable and less-dangerous size. But I do know that with Lewis in charge, the chances of that happening are exactly zero.

I don’t think this is something we should pin on Lewis specifically, it has to do with the structure of American business.

Bigger companies have higher-paid CEOs. This creates incentives for the leaders of large, profitable firms to further expand the size of the firms they run even if there isn’t a good business to do so. What’s more, a good merger or acquisition creates a lot of work for various other financiers and analysts and so forth. I would generally be inclined to say that attempting to correct this market failure through direct government intervention would be likely to create even bigger problems. But in the special case of banks, when firms get “too big” it’s not just somewhat inefficient, it poses major issues for everyone. So I think there’s a fair case for regulations that discourage the creation of very large financial institutions.

Probably the best way to do this is to take existing regulated aspects of the business—capital ratios and so forth—and make the regulations more stringent on larger institutions. That ought to create a circumstance in which firms only grow large if they can come up with some extremely compelling business case for doing so, will create some incentive for big firms to think about smart ways to break themselves up, and will also ensure that more troublesome institutions are more closely supervised than institutions that are less problematic.