This blog originally appeared in the first CFB blog in April of 2010.

Investment banking has suffered profoundly in the popular press. There are good reasons for the outcry.

Wall Street bankers played a significant role in the world’s financial meltdown by expanding the housing bubble through the securitization and sale of sophisticated sub-prime mortgages and financial derivatives. Then, as suffering American taxpayers provided life-saving defibrillation through the Troubled Asset Relief Program, many investment bankers turned around and paid themselves extravagant bonuses for propped-up, year-end profits.

It felt like a massive betrayal, like sticking a tainted needle in the arm of the ER nurse who just saved your life.

If you need more motivation to feel angry, I invite you to watch Michael Lewis’ recent interview with 60 Minutes on the topic of Wall Street’s Delusion. As Lewis says, “No intelligent person sitting on Wall Street can think of themselves as anything but overpaid … they can’t connect what they’re paid and what they contribute.”

(Note: Lewis has just published a post-mortem on the worldwide economic meltdown: The Big Short: Inside the Doomsday Machine). I don’t believe Lewis’ statement can be universally applied, but he does offer a thought-provoking opinion.)

Investment banking does contribute to the common good by matching capital with valid economic needs. When it does so with efficiency and integrity, communities flourish. Investment bankers who carry out this mission deserve to be rewarded.

I believe this to be true and wrote about such aspirations in a recent article, The Moral Imperative of Investment Banking for Comment magazine. The article piqued the interest of the Wall Street Journal, which published a follow-up interview with me (see WSJ Deal Journal, 3/17/2010; WSJ print edition, Money & Investing section, 3/18/2010).

To fulfill its positive potential, the investment banking industry must restore both its public reputation and internal morale. Compensation practices seem like a good place to start.

Goldman Sachs, for example, in its most recent 10-K, listed “negative publicity” about pay as a potential “risk factor” for this year. They acknowledged that “adverse publicity, governmental scrutiny and legal and enforcement proceedings can have a negative impact on our reputation and on the morale and performance of our employees, which could adversely affect our businesses and results of operations.”

When considering pay policy, companies must take into account issues of internal equity (fairness of pay across jobs within an organization), as well as external equity (competitiveness of pay relative to comparable jobs in competitive companies and industries).

Both are important, but for Christians who have opportunities to set or influence the policy agenda, there is a third benchmark – biblical equity. How might the teachings of Scripture shape compensation strategies?

This isn’t an easy question to answer, as there are multiple ways to approach matters of equity. Catholic social teaching, which values solidarity and the common good, is one place where we find guidance. As these principles remind us, Christians will be judged on how we treat the “least” of our brothers and sisters (See Matthew 25:31–46). Micah 6:8 also serves as an important touchstone: What is good and what does the Lord require of you? “… But to do justice, and to love kindness, and to walk humbly with your God.”

Considering such teachings prompts healthy discussion about equitable compensation policy, especially matters related to internal equity.

One approach that might ensue from such a discussion is setting target pay levels at some multiple of the average salary of company employees. Some companies, like Costco, have pursued such policies with success, but one wonders what will happen when the current leaders leave the organization. The competitive pressures to reset to industry norms will be hard to resist.

Pay for performance is another compensation strategy that aligns with Scriptural justice. The parable of the talents, as taught by Jesus, supports such an approach (see Matthew 25:14–30). The servant who was faithful and invested wisely was rewarded by the property owner for his actions. By extrapolation, as we make faithful business decisions in stewarding the resources and people entrusted to us, biblical teaching seems to call for due reward.
But a universal approach to pay for performance policies might backfire, hurting other important stakeholders, like company owners, in the process.

Gustavo Manso, assistant professor of finance at MIT’s Sloan School of Management, argues that punitive-oriented, short-term pay for performance policies might actually stymie innovation that is so necessary to drive our economy. Based on recent research by Manso and others, and as reported by Information Week, pay strategies that “don’t penalize failure and promote long-term success lead to more innovative business strategies than fixed-wage or pay-for-performance incentives.”

Public policy on executive compensation is taking more concrete form. Just last week a bill sponsored by Connecticut Senator Chris Dodd was introduced that pursues a multi-pronged approach to Wall Street reform. The bill expands government oversight of banks, hedge funds, and derivative markets, as well as revamps governance of public companies, whereby shareholders are given advisory votes on executive pay levels.

Regulation is unavoidable. For Christians working in the investment banking field in positions to set or influence policy, their voices need to be heard. If investment banks don’t take leadership in reformation efforts, regulators will do so, and will continue to define the industry and its leaders in the process.

To remain competitive, matters of internal and external equity must be part of the solution, but let those conversations be influenced by creative new ideas with a solid foundation of biblical equity.

John Terrill was the first Director for the Center for Faithful Business at Seattle Pacific University