Corporate Governance of Banks after the Financial Crisis - Theory, Evidence, Reforms

Poor corporate governance of banks has increasingly been acknowledged as an important cause of the recent financial crisis. Given the developments since the Asian financial crisis in 1997, this fact is not readily to be explained. Listed banks and even non-listed firms worldwide have publicly emphasized that good corporate governance is of vital concern for the company, and have adopted firm-specific corporate governance codices. Moreover, banking supervisors have taken up the issue. In particular, the Basel Committee on Banking Supervision has already published two editions of a guideline entitled “Enhancing corporate governance for banking organisations” which perfectly reflects the supervisors’ perception of and approach to the issue Still, only during the second year of the financial crisis, the issue of banks’ good corporate governance has again started to attract pronounced interest. Given the numerous reforms to improve banks’ corporate governance that have either been proposed or already implemented at the international level, national, and supranational, e.g. E.U., levels, the article takes stock of relevant theory and examines recent reforms in light of the empirical evidence. Taking the well-known question “What makes banks different?” (Fama) as a starting point, the theoretical part first analyses the particularities of banks’ corporate governance with respect to a bank’s financiers (shareholders, depositors, and bondholders) in a principal-agent framework and finds that banks’ corporate governance mostly differs from that of a generic firm because of deposit insurance and prudential regulation. While aimed at compensating for deficits in the monitoring and control of banks, both institutions serve to exacerbate the particular problems that are inherent in banks’ corporate governance. The theoretical part, then, presents the supervisors’ financial stability perspective as illustrated by the Basel Committee’s guidance, and concludes with a discussion of the functional relationship between corporate governance and banking regulation/supervision: Whereas banking regulation/supervision acts as a functional substitute for debt governance, equity governance benefits less from such regulation/intervention. Put succinctly, shareholder interests and supervisors’ interests do not run exactly parallel, not even from a long-term perspective. The following part provides an overview of the numerous reform initiatives in light of emerging empirical research on the corporate governance-failure hypothesis, and presents some more ideas for reforms. Of particular interest to this discussion are risk management, board composition, and executive remuneration. The article concludes with some tentative reflections on the lessons from banks’ corporate governance for corporate governance of generic firms, i.e., firms not subject to prudential regulation/supervision. Because of the particularities due to the existence of deposit insurance and prudential regulation/supervision, one may doubt whether banks’ corporate governance should map the way forward for corporate governance.