Kose John, Anthony Saunders, Lemma W Senbet
ABSTRACT
This paper examines the incentive structure underlying the current
features of bank regulation. We show that capital regulation has limited
effectiveness, given the observed high leverage ratios of banks. We propose
instead a more direct and effective mechanism of influencing incentives
through the role of top-management compensation, whereby a fair and revenue-neutral
FDIC premium incorporates incentive features of top-management compensation.
With this pricing scheme (for FDIC insurance), we show that bank owners
choose an optimal management compensation structure which induces first-best
value-maximizing investment choices by a bank's management. We also characterize
the parameters of the optimal managerial compensation structure and the
FDIC premium schedule explicitly.
John: (212) 998-0337 kjohn@stern.nyu.edu
Saunders: (212) 998-0711 asuander@stern.nyu.edu
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