The Friday Read: The Case for Clawbacks

Michael Schrage mulls over the ‘de-knighting’ of Fred Goodwin  – the former RBS CEO who presided over its meteoric rise from a relatively small Scottish bank to at one stage the largest bank in the world –  and argues the case for better designed incentive systems that reward decisions which are inherently sustainable rather than geared towards risky short term profit:

…institutionalized imbalances in compensation encourage too many people to “game the system.” Traders are notorious for developing schemes that sync with how their compensation and bonuses will be paid out. Their defenders argue that consistent losers will, of course, get fired — so what’s the long-term point of clawbacks? But that ignores the (obvious) behavioral reality that traders who know that their greatest risk is losing their job — instead of their money — might be prone to making even larger bets to win comparably larger bonuses. The upside potential overwhelms the downside exposure. That’s a proven recipe for disaster.

Full text at The Harvard Business Review here.