Corporate Governance of Banks and Financial Institutions: Economic Theory, Supervisory Practice, Evidence and Policy

Corporate Governance of Banks and Financial Institutions: Economic Theory, Supervisory Practice, Evidence and Policy

Klaus Hopt

May 11 2020

Banks are special, and so is the corporate governance of banks and other financial institutions as compared with the general corporate governance of non-banks. Empirical evidence, mostly gathered after the financial crisis, confirms this. Banks practicing good corporate governance in the traditional, shareholder-oriented style fared less well than banks having less shareholder-prone boards and less shareholder influence. The empirical studies suggest that it is erroneous to conclude that traditional – even if empirically established – approaches to the corporate governance of corporations can be seamlessly applied to the corporate governance of banks; in fact, exactly the opposite may be true. This is the case, for example, as regards director independence, which according to recent studies can carry negative effects also in the case of non-financial corporations, whereas expertise and experience are of much greater value, at least when obvious conflicts of interest are avoided. Still, it bears emphasis that sound judgment is called for when evaluating empirical findings, in particular because of country- and path-dependent differences resulting from legal regulation and cultural circumstances.

The special governance of banks and other financial institutions is firmly embedded in bank supervisory law and regulation. Starting with the recommendations of the Basel Committee on Banking Supervision, many other supervisory institutions have followed the lead with their own principles and guidelines for good governance of banks. In the European Union, this has led to legislation on bank governance under the so-called CRD IV (Capital Requirements Directive). Shareholder governance and stakeholder governance have been and still are the two different prevailing regimes in the United States and in Europe, particularly in Germany. Yet for banks this difference has given way to stakeholder and, more particularly, creditor or debtholder governance, certainly in bank supervision and regulation.

The implications of this for research and reform are still uncertain and controversial. For banks, self-regulation, if at all, must give way to co-regulation or cooperative regulation between the banks and the state. Mandatory transparency is indispensable. For banks this transparency has the additional function of informing the regulators and supervisors in order to facilitate their task of creditor and debtholder protection and more generally the protection of the economy. Particular qualification and independence problems arise for state-owned banks. The regulatory core issues for the corporate governance of banks are manifold. A key problem is the composition and qualification of the (one tier or two tier) board. The legislative task is to enhance independent as well as qualified control. Yet the proposal of giving creditors a special seat in the board disregards the reality of labor codetermination. Furthermore, giving bank supervisors a permanent seat in the board would create serious conflicts of interest since they would have to supervise themselves.

There are many other important special issues of bank governance, for example the duties and liabilities of bank directors in particular as far as risk and compliance are concerned, but also the remuneration paid to bank directors and senior managers or key function holders. Claw-back provisions, either imposed by law or introduced by banks themselves, exist already in certain countries and are beneficial. Much depends on enforcement, an understudied topic. A mix of civil, penal and administrative sanctions, possibly coupled with private enforcement, may have advantages.

The corporate governance of banks is an ongoing task for supervisors, regulators and legislators, but also one for the banks themselves. In banking, ethics is indispensable, and the tone from the top matters. For all of these issues, more economic, legal and interdisciplinary research on corporate governance in banks and financial institutions is needed, and it could also help pave the way forward.



Fellow, Research Member
Max Planck Institute for Comparative and International Private Law