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The answer that bank chiefs can’t bring themselves to contemplate

If banks can’t increase their return on equity through the markets, they might have to look more closely at components of their cost base, chiefly compensation.

Of course banking still works for some people. The vexed subject of executive pay once again hit the headlines last month amid reports that HSBC’s remuneration committee is discussing with shareholders cutting the maximum payable to the chief executive from £15 million at present to £12 million ($19 .2 million) in future. At the same time, it emerged that Brady Dougan’s 2010 compensation fell to SFr12.8 million ($14 million) for 2010, down from SFr19.2 million in 2009, as the bank’s reported net profit fell by 24%.

Sympathy is scarce for chief executives even when their pay is trimmed, if their banks are producing returns on equity not much above the cost of equity, or below it. At least Credit Suisse reported a 14% return on equity for 2010, above the consensus estimate for European banks’ cost of equity of 11%. HSBC reported 9.5%, and that ranks it among the better performers.

Politicians and voters are still seething at top bankers’ pay as austerity budgets hit home. Regulators too have pointed out that banks wishing to bolster their capital could do so by retaining more of their earnings if they didn’t pay themselves so much. If banking is to become an industry of moderate but stable returns – which is what regulators want – that suggests a limited variation in returns to be derived from the exceptional talent of management and employees.

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