Perspectives on bank capital regulation and managerial compensation

The structure of management compensation may affect the riskiness of a bank's asset portfolio as much as the level of capital maintained. Regulatory policy and FDIC premiums should take into account the incentive features of management compensation in place, in addition to the level of bank capitalization. Since the quasi-debt and the equity participation components of managerial compensation play off-setting roles on the manager's risk-shifting incentives, a bank may be able to fine-tune the 2 incentive features of the compensation to implement, and precommit to, a Pareto optimal investment policy.