The G20 countries' communique contains some fine words. Translating these into actions will be more difficult. The communique is accompanied by a declaration on strengthening the financial system. This declaration has a section concerning the scope of regulation and compensation. It is stated that hedge funds or their managers will need to be registered and will be subject to disclosure obligations. With regard to remuneration, the declaration endorses the Principles for Sound Compensation Practices published yesterday by the Financial Stability Forum. These Principles are organised under the following headings: [1] governance of compensation, [2] alignment of compensation with prudent risk taking and [3] supervisory oversight and engagement by stakeholders. The communique describes the FSF's Principles as "tough" (para. 15) although they are not particularly surprising. Few would, for example, disagree with Principle 1:
The firm’s board of directors must actively oversee the compensation system’s design and operation. The compensation system should not be primarily controlled by the chief executive officer and management team. Relevant board members and employees must have independence and expertise in risk management and compensation".
The Principles are intended to reduce incentives towards excessive risk taking that may arise from the structure of compensation schemes. They are not intended to prescribe particular designs or levels of individual compensation. One size does not fit all – financial firms differ in goals, activities and culture, as do jobs within a firm. However, any compensation system must work in concert with other management tools in pursuit of prudent risk taking".
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