“Compensation practices at some banking organizations have led to misaligned incentives and excessive risk-taking, contributing to bank losses and financial instability,” Fed Chairman Ben Bernanke said in a statement announcing the moves. “The Federal Reserve is working to ensure that compensation packages appropriately tie rewards to longer-term performance and do not create undue risk for the firm or the financial system.”

A separate explanation provided by the Fed goes even further to justify the proposal, saying, in effect, that Wall Street executives can’t be trusted to limit risk-taking on their own.

Recent events have highlighted that inappropriate compensation practices can contribute to safety and soundness problems at banking organizations and to financial instability. Traditionally, banking organizations and supervisors relied on strong risk management, internal controls and corporate governance to help constrain risk-taking. However, the financial crisis has illustrated that the incentives created by poorly designed and implemented incentive compensation arrangements can be powerful enough to overcome risk controls.

The Fed’s plan is to monitor the pay structures of the nation’s banks in order to discourage excessive risk-taking by executives as well as lower-ranking employees, such as traders. The reviews will apply differently to the nation’s 28 largest institutions versus the smaller community banks, with the larger banks subject to more intensive scrutiny.

Federal Reserve Governor Daniel K. Tarullo said the proposal “is but one part of a broad program … to strengthen supervision of banks and bank holding companies in the wake of the financial crisis.”

It was the second wave of bad news to hit Wall Street in 24 hours. On Wednesday, the Obama administration announced plans to slash pay for the top 25 executives at the seven companies that received “exceptional” funding under the Wall Street bailout bill. The average compensation for those 175 executives will be halved, according to U.S. pay czar, Kenneth Feinberg.

Still, neither the administration’s nor the Fed’s limits would cap compensation at these firms, as proposed by some members of Congress earlier in the year. That means that executives at even those institutions propped up with billions of taxpayer dollars could still be in line for multi-million dollar pay packages. The Fed explains why it didn’t include caps:

[O]ne size does not fit all firms or employees. Best practices for balancing risk and rewards in incentive compensation programs continue to develop and are likely to evolve significantly in the coming years….

Further experience may reveal specific compensation practices that may appropriately be required or prohibited.

Cheronda Guyton, a senior vice president responsible for commercial foreclosed properties, broke company rules barring personal use of bank property, Wells Fargo said in a statement Monday.

The Times reported last week that Guyton had been spotted by neighbors spending time at the Malibu Colony home with her family this summer. At a party in August, guests were ferried to the beach house from a yacht, residents of the enclave said.

The property’s former owners were victims of convicted swindler Bernie Madoff’s Ponzi scheme, and lost the home as a result.

This story pretty much has everything you might look for if you’re trying to follow the foreclosure crisis. An expensive second home, taken back by the bank. Bernie Madoff. A top executive of a bailed-out bank capitalizing on someone else’s foreclosure mess. The yacht that brought guests to the party.

And now it has something else as well: Someone at the bank appears to have paid the price for unacceptable behavior. With top executives of companies bailed out by the taxpayers still raking in big paychecks, that’s  definitely something we haven’t seen much in this crisis. Too bad it had to take over-the-top behavior like partying in someone’s foreclosed house for that to finally happen.

“You don’t have to wait to use plain language in your dealings with consumers,” Obama said. “You don’t have to wait for legislation to put the 2009 bonuses of your senior executives up for a shareholder vote. You don’t have to wait for a law to overhaul your pay system so that folks are rewarded for long-term performance instead of short-term gains.”

Felix Salmon at Reuters particularly liked this explanation of the need for a Consumer Financial Protection Agency:

Consumers shouldn’t have to worry about loan contracts designed to be unintelligible, hidden fees attached to their mortgages, and financial penalties – whether through a credit card or debit card – that appear without warning on their statements. And responsible lenders, including community banks, doing the right thing shouldn’t have to worry about ruinous competition from unregulated competitors.

Opponents of such an agency argue that it will limit consumer choice and financial innovation, but Salmon says Obama countered that argument well in his speech, by arguing that in the past a lack of rules has meant “innovation of the wrong kind,” like the firm that could make its products look best by “doing the best job of hiding the real costs.”

For example, we had “teaser” rates on credit cards and mortgages that lured people in and then surprised them with big rate increases. By setting ground rules, we’ll increase the kind of competition that actually provides people better and greater choices, as companies compete to offer the best product, not the one that’s most complex or confusing.

Derek Thompson at The Atlantic, however, has a different take. Obama, he said, channelled his inner Jennifer Aniston in the speech.

I have an running observation about Obama, inspired by this article in The New Republic, that the president likes to remind audiences that he would prefer to tweak their incentives than have the government mandate reform. He and Treasury, you remember, wanted private investors to choose to buy the toxic assets. He continues to ask private insurers to choose preventative care, end underwriting and cut it out with rescission.

This instinct reminded me of a famous scene from Aniston’s movie The Break-Up, where her character famously tells her live-in boyfriend (Vince Vaughn), not that she wants to do the dishes for him; nor that she wants to force him to do the dishes: She wants him to want to do the dishes.

Reading Obama’s speech with my Rom-Com glasses on, the message is strikingly familiar. Obama doesn’t want to run Wall St. He wants Wall St. to re-learn how to run itself.

In the movie, Aniston’s wish for her boyfriend to want to do the dishes doesn’t exactly come true. Thompson isn’t sure Obama will fare any better.

I swear, it’s not just me watching too much TBS. Tim Fernholz remarks that “his call for financial sector players to act voluntarily in the public interest immediately rather than waiting for reform to pass” sounds like “health care tactics all over again.” It’s true! This is a very standard rhetorical tactic for Obama. Whether it works for him better than the threat worked for Aniston’s character, however, remains an open question.

And that’s the question that remains, as the Lehman anniversary passes, Obama heads back to Washington, and the fate of financial regulatory reform remains up in the air.

The financial markets are too important to the economy to be left to the markets alone. You need a strong framework of regulations, a much stronger framework than we had.

In Congress, Sen. Chris Dodd (D-Conn.), chairman of the Senate Banking Committee, and Rep. Barney Frank (D-Mass.), who heads the House Financial Services panel, are pushing for sweeping reforms of the finance industry this year, including the creation of a new agency designed to protect consumers from some of the more dubious practices of the banks.

With Congress already facing hugely contentious health reform and climate change bills this fall, however, the Democrats might not want to hold their breath for action this year.

Here are the numbers:

So far this year, the top six U.S. banks have set aside $74 billion to pay their employees, up from $60 billion in the corresponding period last year.

Not surprisingly, this development has sparked plenty of outrage:

The increase in set-asides for employee pay has raised the ire of Washington, where lawmakers denounced financial leaders for returning to old habits and vowed to enact measures governing executive compensation.

“It strengthens our commitment to getting legislation passed,” Rep. Barney Frank (D-Mass.), the chairman of the House Financial Services Committee, said in an interview Wednesday, adding that a committee vote on a bill to increase oversight of Wall Street pay has been scheduled for Tuesday. “The amounts are troubling.”

Troubling is one way to put it. There are two big problems with Wall Street compensation that looks out of line with the nation’s grim fiscal reality. First, unemployment keeps rising and the prospect of a jobless recovery appears more likely every month. If ever there were a recipe for Main Street resentment, this would be it: jobless Americans watching the traders and executives they blame for the crisis raking in huge paychecks. No nuance here.

Second, as Clusterstock points out, when Goldman Sachs reports blowout numbers, as it just did — a record $3.4 billion quarterly profit — and Morgan Stanley records a $1.2 billion loss, analysts tell Morgan Stanley to take more risk.

It’s all clear. The fear is not insolvency. That’s long gone. The fear is not capturing enough upside.

At Time, Justin Fox explains that there are more substantive reasons to criticize Goldman or JPMorgan Chase than just the profits:

The teams at Goldman Sachs and JPMorgan Chase avoided giant missteps in the lead-up to last fall’s panic and are now wresting market share from wounded competitors and raking in billions. They’ve already paid back the bailout funds they got in October, which means they’re exempt from compensation limits and can disburse their gains to employees in the form of titanic end-of-year bonuses. That’s how capitalism is supposed to work, right?

Well, yeah, except that Goldman and JPMorgan played right along with many of the Wall Street practices that led to the crisis. They fought regulation — of derivatives, for instance — that might have prevented it. And their big profits can be traced not only to skill but also to the government’s decision last fall to bail out the financial sector just as the troubles that toppled Lehman Brothers and WaMu and forced Bear Stearns, Merrill Lynch and Wachovia into shotgun marriages began to endanger Goldman and (to a lesser extent) JPMorgan. “No one should be confused about the extent to which the public sector has provided a foundation for financial recovery,” White House economic czar Larry Summers said after Goldman and JPMorgan reported their stellar second-quarter earnings.

Now the question, as Fox notes, is whether Goldman and JPMorgan will repeat their past practices and put their highly compensated employees to work once again, fending off financial regulation from Washington.

Should that occur, it would provide the fuel for the return of pitchfork populism, even beyond huge profits and excessive compensation. The backlash won’t be subtle. And should bailed out banks leverage their taxpayer dollars to sway Washington in their favor, it won’t be the wrong approach, either.

“Our people kind of thought it was a non-event,” one executive of a large bank said. “There’s nothing in there that’s radical. It’s not like the horrible and unethical action from Congress where they were putting artificial caps on pay or trying to steal back bonuses . . . I don’t think there are worries about it on Wall Street.”

From another source:

“The focus was really on a light touch approach,” [another] person added, speaking on condition of anonymity because the discussions are ongoing. “Nobody said the government needs to regulate with a heavy hand, like caps or micromanagement, but that investors needed more tools to increase disclosure and director accountability.”

Indeed, while the new compensation plan targets the top executives and highest-paid employees at the seven companies receiving the most bailout cash, executives at the hundreds of other bailed-out companies will go largely untouched. Example: While the plan places limits on bonuses (as mandated by an amendment passed by Congress earlier in the year), it limits the definition of “bonus” to exclude the commissions that send the pay for many traders soaring.

The Obama plan also scraps the $500,000 salary cap the administration had proposed in February for executives of bailed out firms. President Obama unveiled that cap with the statement that Americans were outraged with “executives being rewarded for failure.” Could it be that just four months later the White House no longer sees a problem with rewarding the same failure?

This is what happens when Wall Street runs the Treasury.

The Obama administration earlier this year issued guidelines that include limiting salary for top executives at some firms receiving TARP funds and requiring that additional pay be in the form of restricted stock, vesting only after the company repays its debt, with interest, to the government. Congress then chimed in with even tougher rules curbing bonuses for top earners at firms receiving TARP money. As part of that effort, lawmakers barred those firms from paying top earners bonuses that equal more than a third of their total compensation.

“The White House,” the Journal reported, “has been wrestling with how to marry those two efforts, which in combination are more punitive than administration officials had intended.”

Indeed, “more punitive” is hardly what policymakers seem to be after. A brief history:

Both the Bush and Obama administrations have been extremely lenient about limiting executive compensation for firms accepting bailout cash. The original bailout bill, unveiled by then-Treasury Secretary Henry Paulson in September, contained almost no conditions on executive pay at all. Congress intervened to apply some limits, but the loopholes remained enormous.

In January, the House passed a bill to close some of those loopholes, but the Senate ignored the bill.

A month later Obama, along with his Treasury Secretary Tim Geithner, announced their own executive pay limits, though those guidelines also were pocked with holes. The reason for the leniency, a Treasury release argued at the time, was “to strike the correct balance between the need for strict monitoring and accountability on executive pay and the need for financial institutions to fully function and attract the talent pool that will maximize the chances of financial recovery.” The message was clear: The White House feared that severe restrictions on executive pay, even for firms kept afloat only on the waterwings of billions of federal dollars, would scare away the “talent pool” that had run the companies into the ground — employees deemed vital to the recovery.

More recently, the Senate succeeded in passing another law limiting some executive bonuses to a third of compensation. It’s this law that the administration apparently feels is too punitive, despite the fact that Treausry officials watered it down before it was passed. And of course none of these efforts have done much to limit executive pay, as reports have indicated.

So this is the landscape that Feinberg is soon to encounter. Think about that the next time you’re feeling bitter about your job.

Even as the industry’s compensation has been put in the spotlight for being so high at a time when many banks have received taxpayer help, six of the biggest banks set aside over $36 billion in the first quarter to pay their employees, according to a review of financial statements.

If that pace continues all year, the money set aside for compensation suggests that workers at many banks will see their pay — much of it in bonuses — recover from the lows of last year.

“I just haven’t seen huge changes in the way people are talking about compensation,” said Sandy Gross, managing partner of Pinetum Partners, a financial recruiting firm. “Wall Street is being realistic. You have to retain your human capital.”

Brad Hintz, an analyst at Sanford C. Bernstein, was more critical. “Like everything on Wall Street, they’re starting to sin again,” he said. “As you see a recovery, you’ll see everybody’s compensation beginning to rise.”

The only hope here is that corporate boards do a better job of policing this sort of thing than they did in the past, and that the public pays closer attention to it — as it should, considering the billions of taxpayer dollars that have gone to bail out many of these banks.

You might think that some sort of lesson would have been learned from a crisis this severe. But not on Wall Street, I guess. If financial executives truly want to understand why the public is so angry with them, here’s yet another reason.

Yesterday, the Wall Street Journal reported that BofA chief executive Ken Lewis told New York’s attorney general in February that Federal Reserve Chairman Ben Bernanke and then-Treasury Secretary Henry Paulson told Lewis to keep mum about Merrill’s steep losses at the end of 2008, as well as $4 billion in bonuses Merrill intended to pay employees, lest the news spook BofA shareholders and kill the acquisition deal.

Geithner, of course, was neck deep in crafting the bailout strategies under the Bush administration, and now Towns, who heads the House Oversight and Government Reform Committee, has joined forces with Rep. Dennis Kucinich (D-Ohio), who chairs the Domestic Policy subpanel, to ask what role Geithner played in the controversial BofA-Merrill deal.

From the lawmakers’ April 23 letter to Geithner:

If Mr. Lewis’s statement, as reported by the Journal, of discussions that occurred between Mr. Paulson, Mr. Bernanke and himself is accurate, then federal officials were potentially involved in knowingly denying BOA investors material information.

The lawmakers are asking Geithner for “all documents prepared for internal use related to discussions with Bank of America and/or Treasury about compensation packages, bonuses, annual losses at Merrill Lynch, and federal guarantees against losses on Merrill Lynch assets, for the period August I, 2008 through January 19,2009,” as well as “discussions relating to public disclosure of information about compensation packages, bonuses, and annual losses at Merrill Lynch.”

A similar version of the letter went to Bernanke. And unlike the first inquiry over executive compensation limits — which Geithner still hasn’t responded to, even eight days after the requested deadline –  Towns and Kucinich are threatening to subpoena the officials for the information if they don’t get it otherwise.

The implications of Mr. Lewis’ testimony, if accurate, are extremely serious. Under these circumstances failure to comply with the Subcommittee’s request raises the prospect that we will be forced to consider compulsory means to achieve compliance with our request. However, we would prefer your voluntary compliance.

Guess the Obama honeymoon is officially over.

Well, it seems that some industry executives haven’t been willing to take the pay cut. The Washington Post reported today that Chrysler Financial — the lending arm of the withering automaker — lost out on $750 million in federal help because some executives refused to accept Washington’s pay limits. The development means that the company will have to take out its loans from private banks at higher rates, according to The Post.

Most of the agreement was in place, sources said. But on April 7, Treasury asked Chrysler Financial to have its top 25 executives sign waivers regarding their compensation, according to sources familiar with the matter who declined to talk publicly because they were not authorized to speak.

Within a week, the company responded that some of the executives had refused to give their approval. By last week, Treasury had rescinded the loan offer, the sources said.

Chrysler Financial is denying that this is the case, arguing that the company — which has already accepted $1.5 billion in emergency help from Washington — is healthy enough that it doesn’t need more, The Post reported.

“Chrysler Financial has determined that it has adequate private capital funding to cover the short-term needs of our dealers and customers and as such no additional TARP funding is necessary at this time,” the company said in its statement.

That turns this into an all-too-common he-said/she-said saga — and all the sources anonymous. We’re eagerly awaiting more details.