Alan Au, Executive Director (Banking Conduct), Hong Kong Monetary Authority
Distinguished Guests, Ladies and Gentlemen,
Good morning, good afternoon and good evening everyone. I would like to thank 1LoD for inviting me again to address this year’s virtual event “XLoD Global”. I’m very glad to join you all virtually at this event. Having said that, I believe that most of us miss a face-to-face dialogue, and this reminds me that Covid is still having a deep impact on many matters, including bank culture.
Those of you who attended the “XLoD Global” event last year may recall that I spoke about sound bank culture being more important than ever in times of pandemic. During Covid, we have seen a substantial increase in the popularity of digital banking among customers. As an example, total applications for personal banking credit products via digital channels in Hong Kong surged more than 40% in the second half of 2020 compared to the first half year, with those made via mobile apps contributing to 40% of the total digital applications. The rapid development of digital banking has enabled a much more customer-friendly online journey. However, at the same time, we must not lose sight of the need to ensure adequate customer protection in such new banking era. And this cannot wholly rely on control measures imposed by banks, we also need the strong support of a sound bank culture.
We at the HKMA have been very enthusiastic in advocating a sound banking culture since we initiated the bank culture reform back in early 2017. All along, we emphasise that there is no “one-size-fits-all” approach and no single formulation of “sound” culture. Instead, a bank and its staff must internalise sound culture in such a way that the staff behave properly because they think it is the right thing to do so. Overall, we encourage banks to focus on three fundamental elements, which are:
|(a)||A strong “tone from the top” supported by a sound governance framework;|
|(b)||An appropriate incentive system that drives desirable behaviour; and|
|(c)||An effective feedback mechanism which can “echo from the bottom”.|
Through the various culture initiatives spearheaded by the HKMA in the past few years, we are glad to see good progress made by the Hong Kong banking industry. This year, we are advancing further to dive deeply into studying the incentive systems of front offices through a focused review among retail banks in Hong Kong. Incentive system is also of fundamental importance to “1st Line Control” which is one of the foci of the discussion in the XLoD event this week. I am going to talk more about our Focused Review in the next few minutes.
What drives behaviour
Before I go more deeply into the Focused Review, let us first take a look at what drives behaviour, which constitutes the norm and shapes a bank’s culture. In an attempt to answer this question, psychologists point to “motivation”.
People are motivated, on one hand, by our biological drives, such as hunger and safety. This is what psychologists commonly call the “push” side of motivation. On the other hand, we are also “pulled” to act because we are attracted to particular rewards, or in other words, “incentives”. So, it would certainly make sense for banks to dig deeper to find out what motivates their staff so that they would behave in ways that lead to good customer outcomes. An appropriate incentive system is certainly a centre piece of the “pull” factors.
Focused Review on incentive systems
Based on the insights drawn from a previous self-assessment exercise undertaken by the HKMA which covered 30 banks, including all major retail banks and selected foreign bank branches with substantial operations in Hong Kong, we published a “Report on Review of Self-assessments on Bank Culture” in May 2020 to provide a range of sound culture practices as well as common themes for the industry’s reference. In respect of incentive systems, while we are pleased to note from the self-assessment exercise that there is an increasing trend towards a greater use of a balanced scorecard approach and banks now consider both “what” (i.e. financial factors) and “how” (i.e. non-financial factors), banks’ culture effort in incentive systems is still very much an area of “work-in-progress”. Therefore, we commenced a Focused Review on incentive systems of front offices in March this year.
With a view to identifying industry-wide practices and an aim for better alignment of incentive systems among banks with the desired culture, the Review studies a number of specific areas, including how the incentive systems of front offices drive behaviour of frontline staff, in particular, their role in achieving better customer outcomes and minimising potential misconduct behaviour and mis-selling practices in the sale and distribution of banking, investment and insurance products.
The Focused Review is a large scale industry-wide exercise covering 20 retail banks in Hong Kong. Insights will be drawn from data collected through a range of activities, including an employee survey, focus group discussions, interviews with staff as well as a document review. Up till now, we have already completed the industry-wide employee survey which aims at gauging frontline employees’ perception of their banks’ incentive systems and culture. It is encouraging to see that the survey received an impressive response rate, at around 70%, which is much higher when compared to similar exercise undertaken in other places.
Interim insights of the Focused Review
From the survey response collected, we have identified some preliminary observations which I am pleased to take this opportunity to share with you.
As you may expect, according to the survey results, financial incentives such as bonus payments on top of the fixed pay remain to be a heavily weighted motivator for bank staff. In particular, some banks are using tactical incentive programmes to achieve specific targeted outcomes, while some banks are adopting non-linear pay structure with a view to making the impact on pay more significant. That said, it is encouraging to note that other intrinsic motivators (such as upholding the bank’s reputation, achieving good customer outcomes and contributing to team objectives) are also considered by the frontline staff as important. In fact, 90% of respondents in the employee survey find it rewarding to achieve good customer outcomes and even more frontline staff regard upholding his or her bank’s reputation as their responsibility. This sort of conscientiousness and sense of responsibility is a key driver in guarding against misconduct behavior.
Interestingly, the perception of incentive systems generally differs at different staff levels. The survey findings indicate that frontline staff generally feel that performance in terms of meeting business targets is of high priority, whereas their supervisors and senior leaders tend to think that the incentive systems are more balanced.
It is also noted that some banks, when compared to others, have more staff responding favourably to survey questions relating to positive customer and conduct outcomes, such as fair treatment of customers and customer satisfaction of products and services. For these banks, their staff tend to see a more balanced focus on the “how-factors” (i.e. the non-financial aspects of the incentive systems) in addition to the “what-factors” (i.e. the financial aspects). Moreover, in these banks, staff are generally provided with greater recognition for behaviour that are conducive to sound culture.
So it is quite obvious that an appropriate incentive system does help shape the perception of bank staff and induce the desired behaviour at all levels. But how should banks design their incentive systems to achieve the desired customer outcome?
As a start, we note from the Focused Review some interesting incentive practices used by banks for motivating desirable staff behaviour. For example, some banks use non-financial key performance indicators (KPIs) as the “gate opener” for variable remuneration. That is, a bank staff needs to demonstrate satisfactory performance on non-financial KPIs first, in order to be qualified for variable remuneration in the performance assessment. Those who cannot meet the conduct-related non-financial KPIs would not even be eligible for the variable remuneration. Such design may encourage frontline staff to focus more on delivering behaviour that lead to positive customer outcome than purely chasing for variable remuneration. As regards disincentives for undesirable behaviour, some banks use non-financial KPIs as “gate-closer”, where deductions in remuneration are made in respect of undesirable behaviour. This approach could possibly lead to a consequence that staff may only meet minimum behaviour standard to avoid penalties. Some banks are therefore going beyond the “gate” approach, with satisfactory performance in non-financial KPIs contributing positively to the quantum of variable remuneration alongside the financial KPIs. However, measuring “outperformance” in non-financial KPIs may not be straightforward. All in all, different approaches in using non-financial performance assessment as a mechanism to determine variable remuneration may have different motivational impact on frontline staff. Tuning the formula to achieve the desired outcome could be more an art than science, and we are seeing institutions experimenting and refining their remuneration practices from time to time taking into account actual experiences.
At this stage, the findings that I have just shared with you are still preliminary. We are now advancing to the next phase of the Focused Review to further explore any emerging themes and practices. Upon completion, which is expected to be around early next year, we plan to share further observations and insights as well as effective incentive practices with the banking industry.
Ladies and gentlemen, I trust that you would all agree with me the importance of incentive systems in motivating desirable staff behaviour. Through the Focused Review, we aim to find out how incentive systems drive staff behaviour and affect customer outcomes. Our goal is to achieve better alignment of the interests of bank staff and customers whilst preventing potential misconduct behavior, through the design of the incentive systems for bank staff. We trust that the Focused Review would set another important milestone in our journey in promoting sound bank culture.
I would like to thank 1LoD again for inviting me to share with you our work in promoting bank culture today. I hope that my sharing has “pulled” you to think more deeply on the importance of incentive systems, and I am sure fruitful programme of the XLoD event this year will inspire all of us as we continue our culture journey.
Thank you very much.