Why the EU cap on bankers’ bonuses could prove illegal

Stephen Mavroghenis
ONE of the most controversial aspects of the European Parliament’s CRD IV legislative package, approved on 13 April, is the bankers’ bonus cap. To remind you of the details, once it comes into force, the ratio of variable to fixed pay for highly-paid bank employees will be capped at 1:1 (or 2:1 under certain conditions and upon shareholders’ agreement).

And bankers working for European banks will not be able to escape by leaving the EU. The rule has extraterritorial effects and applies to all bankers who work for European-headquartered banks, no matter where they are in the world. For banks not headquartered in Europe, only employees working in the EU will be caught.

Given widespread anger at excessive risk taking by bankers, many are sympathetic with the cap. Fine: it is irrelevant whether I agree with it or not. But I do question its legal basis, which appears tenuous at best.

Formally, the EU’s purported competency arises from Article 53(1) of the Lisbon Treaty, a provision aimed at harmonising member state laws concerning the take-up and pursuit of activities by self-employed people and the mutual recognition of qualifications. Based on a plain reading of the text, it is difficult to see how a provision based on harmonising rules for self-employed people could constitute the legal basis for limiting bonuses. But there it is, without further explanation. It’s a Treaty that is being contorted and stretched beyond its original purpose.

Additionally, the objectives of the measure supposedly allowed EU legislators to set aside the social provisions of the Lisbon Treaty. Lisbon prevents, by virtue of Article 153(5), the EU from regulating the level of pay in member states.

It’s been suggested that, even if Article 153(5) were to apply, the EU would not have stepped beyond the limits of its remit. Some argue that merely fixing the bonus to salary ratio does not amount to the regulation of overall pay. But this is a specious argument, given that the stated aim of the bonus cap is to moderate the overall pay of bankers to deter excessive risk-taking. These questions of legal competency are of constitutional importance and, if unchecked, the act begins to threaten the rule of law.

For the EU to act beyond its powers and continue its relentless creep into more and more areas once considered safe harbours of national sovereignty raises further questions. Any legislation that will make the EU less competitive and disproportionately injure a single member state – by raising banks’ fixed costs to the benefit of non-EU credit institutions and encouraging a flight of talent – should, you would think, be very firmly grounded within the competency of the EU. Regrettably, that does not appear to be the case. In the example of the bonus cap, legal competency appears to equate to populist and political sway.

Stephen Mavroghenis is a partner at Shearman & Sterling. He will be exploring this issue further at the City Remuneration Summit, organised by City & Financial in London on 27 June. For further details about the event, visit www.cityandfinancial.com/ctyr6