Wall Street Partnerships and Principal Agent Problem

John Gapper has a super blog over at the FT in which he discusses the benefits that might flow from reforming bankers’ pay and restoring the partnership approach to renumeration

“Mr Thain correctly pointed out during the session that the old partnership structure of Wall Street firms, under which partners’ capital was at risk until they retired, produced better incentives in terms of risk management than bonuses based on short-term performance…This is not a bad idea but it might be extended. Why not truly replicate the partnership structure by applying those conditions to everyone who reached “partner” level - senior managing director or the equivalent at a large investment bank?”

This ties in with the idea of changing the behaviour of senior management so that they give great weight to the risks of particular investment and lending strategies and tries to avoid the myopic decision making that has proved so costly before the financial crisis.

The partnership model has applied particularly successfully in the UK with the continued success of the John Lewis Partnership. In March 2009 despite the effects of the retail recession, John Lewis announced that The company it would pay out total bonuses of £125.5m. That is the equivalent to about 13% of salary, or seven weeks’ pay.