Specifically, the experiment was designed to examine how caps on bonuses and “malus” (bonuses that are not paid out if, for example, performance falters in subsequent years) might affect individuals’ risk choices and efforts to seek out the best projects. The experiment showed evidence that, while both schemes tend to reduce risk-taking, they could be arbitraged relatively easily by introducing absolute or relative performance targets. There was also some evidence that a bonus cap might reduce incentives to search for good projects. The Bank of England is considering extending this experimental approach to a wider range of policy design questions and a wider range of financial market participants - risk-takers and risk-managers. In principle, this approach might provide some early indications of how new regulation might reshape risk incentives, including arbitrage incentives, which could help in recrafting regulation before it is introduced. Macroprudential Policy One of the greatest intellectual errors made in the run-up to the crisis was a classic “fallacy of composition”: it was assumed that the resilience of individual financial institutions was both a necessary and sufficient condition to ensure the resilience of the financial system as a whole. Events during the crisis, and  22  See BCBS (2016): http://www.bis.org/bcbs/publ/d362.pdf and BCBS (2013b): http://www.bis.org/publ/bcbs258.pdf 30  All speeches are available online at www.bankofengland.co.uk/speeches  30  subsequent theoretical and empirical work, has shown that the resilience of individual firms is neither necessary nor sufficient for the mitigation of systemic risk (Masera (2014), Crockett (1996)).
Financial intermediaries are often more focussed on short-term earnings than private investors, and more likely to move capital in the event of anxiety or problems. There is therefore a risk, although this should not be exaggerated, that increased institutional ownership will reinforce herd behaviour and lead to larger fluctuations in prices in the financial markets. Increased institutional ownership also means that the passive owners will have relatively substantial influence over the companies. In most cases, the mutual fund companies do not participate in the management of the various companies. This in turn means that corporate governance issues gain in significance. What ability and interest do the mutual fund companies have in influencing management to participate in the board work of the limited companies? In recent years, mutual fund companies and other institutional owners have shown slightly greater interest in the work on management of these companies. However, an interesting question of principle here is what mandate they have for this. The primary goal for a unit trust investor ought to be to achieve the highest possible yield at a given risk level. It is not necessarily in the interests of the mutual fund investor for the mutual fund company to conduct corporate governance. However, from the point of view of the economy as a whole it is important that there are owners who can actively govern the companies.