Subprime meltdown shows banking bonuses are a sham

The New York Times DealBook recently asked the question "Should banks take back their bonuses?"

The top investment banks will be paying out a record $39 billion in bonuses for 2007, a year in which most posted massive writedowns on bad subprime loans and saw their share prices shrink precipitously.

Making matters worse, traders and investment bankers earned huge bonuses on deals in past year that have now been written down. The deals weren't valued properly in the first place, but who cares! They already got their bonuses.

At the risk of being inflammatory, I have to tell you: This reminds me of Enron, where executives "marked to market" deals based on hypothetical future profits, paid themselves huge bonuses and, in one case, had cashed out and become the largest landowner in Colorado by the time stuff hit the fan.

The problem with the Wall Street bonus system is that it rewards risk over prudence. The compensation philosophy on Wall Street seems to be "Heads I win, tails I still win, as long as I can convince people it was actually a heads at the time I toss the coin. When they find out it was really a tails in a few years, I'll already have spent my bonus on that mansion in the Hamptons, and the shareholders can jolly well deal with it." Or something.

Until someone has the courage to make some changes in the Wall Street bonus structure, we can expect big blow-ups like this from time to time. As economics teaches us, people respond to incentives, and Wall Streeters are incentivized to take big risks with other people's money.