Review of Quantitative Finance and Accounting, 20: 335–354, 2003
2003 Kluwer Academic Publishers. Manufactured in The Netherlands.
The Response of Commercial Banks
to Compensation Reform
Department of Public and Business Administration, University of Cyprus, Kallipoleos 75, Nicosia – 1678, Cyprus
Tel.: 357-22892490, Fax: 357-22892460
JAMES F. WAEGELEIN
1300 Sunnyside Dr., School of Business, University of Kansas, Lawrence, KS 66045, USA
Tel.: (785) 864-7511, Fax: (785) 864-5328
University of Cyprus, Kallipoleos 75, Nicosia – 1678, Cyprus
Abstract. This study assesses changes in the executive compensation policy of 94 commercial banks follow-
ing the SEC’s expanded compensation disclosure rules and revisions in the Internal Revenue Code regarding
deductibility of compensation expense. During the period from 1989–1997, commercial banks experience a sig-
niﬁcant decline in the number of insiders serving in executive compensation committees. Following compensation
reform, banks seem to substitute non-cash for cash compensation, and exhibit a somewhat stronger pay-for-
performance relationship. Further, board structures are statistically indistinguishable among banks that were
acquired compared to surviving banks, and between banks and a sample of electric utilities. Taken together, our
analysis suggests that compensation reform, rather than deregulation or corporate control, led commercial banks
to change their governance structures and provides limited evidence that such changes enhanced the incentive
effects of compensation contracts.
Key words: compensation reform, commercial banks, compensation committees
JEL Classiﬁcation: G38
Few industries have undergone as many structural changes as banks in the 1990’s. Never-
theless, although there is a large body of evidence studying the governance of industrial
corporations, there exists only limited evidence pertaining to the control environment in
Yet, the boom in corporate control activity in banking has likely inﬂu-
enced the workings of the market for bank executives and the various governance mech-
anisms that can be used to monitor bank executives.
Therefore, structural changes in the
banking industry during the 1990’s provide a fruitful setting for studying the effects of
recent compensation reform on the governance of commercial banks.
Understanding corporate governance in banking is important because it is likely to help
policy makers in their effort to establish a more stable economic environment. The recent