Banks have not effectively linked compensation with risk, suggests a report from the Basel Committee on Banking Supervision published Thursday.

The report says that ensuring that compensation policies are effectively aligned with risk and performance is essential for reducing incentives that may lead to excessive risk taking. However, it notes that, in practice, tying an employee’s compensation to the risks that they take on behalf of their firm has proven challenging to implement. So far, “effective implementation of these principles by banks has not been achieved”, it says.

The report analyzes the methods used by banks for incorporating risk into bonus pools and individual compensation schemes. “Depending on the remuneration scheme’s design and detailed features, the effectiveness of such methods in creating incentives for prudent risk taking varies significantly,” the report finds.

The report also focuses on the practical and technical issues that might affect the efficacy of these methods, which it hopes will facilitate the broader adoption of sound compensation practices in the banking sector.

The report is out for comment until December 31.

IE