Yesterday, the US Treasury released highlights of its proposed Executive Compensation Rules associated with the $700 billion Emergency Economic Stabilization Act (“EESA”).  Here is a summary of the key provisions.

Any financial institution participating in the Capital Purchase Program will be subject to more stringent executive compensation rules for the period during which Treasury holds equity issued under this program. The financial institution must meet certain standards, including: (1) ensuring that incentive compensation for senior executives does not encourage unnecessary and excessive risks that threaten the value of the financial institution; (2) required clawback of any bonus or incentive compensation paid to a senior executive based on statements of earnings, gains, or other criteria that are later proven to be materially inaccurate; (3) prohibition on the financial institution from making any golden parachute payment to a senior executive based on the Internal Revenue Code provision; and (4) agreement not to deduct for tax purposes executive compensation in excess of $500,000 for each senior executive. 

While this sounds good enough, there is a great deal of room for interpretation that may or may not help deal with the real problem at hand.  If you read my blog entry on September 24, you will have a better appreciation for the incentive programs leading to firms taking excessive risks.   The senior executives’ pay packages certainly added to the problem, but the great extent of the excessive risk taking is found throughout the institutions’ trading floors and mortgage origination ranks.  So, how will the Treasury ensure excessive risks are not taken by non-senior executives?  As with everything, the devil is certainly in the details.  I’m sure there will be more debate once the detailed rules are released. Stay tuned.

As we enter another week in the evolving crisis sweeping our financial markets, it is clear that the central figure in this crisis, the US Government, has been reacting to events as they happen.   From the outside, it appears that the Government is using a trial-and-error approach by launching various imperatives with little knowledge of the expected result.  This is crisis management at its worst.

Once this crisis has passed, our Government should look to our northern neighbors for a lesson in risk management. The Canadian Government has been endorsing a program called “Results for Canadians” since the late 90’s.  Part of this program focuses on how the Government can improve their approach in proactively dealing with potential risks.  In 2003, the Canadian Treasury Board developed an Integrated Risk Management Framework for use by all areas within the Canadian Government.  The Treasury Board explains the purpose of the framework as follows:

The Integrated Risk Management Framework provides guidance to adopt a more holistic approach to managing risk. The application of the Framework is expected to enable employees and organizations to better understand the nature of risk, and to manage it more systematically.

Could the US Government and Treasury use a risk framework, eh?  What are your thoughts?