RBS: A £1m bonus is a bargain for a star CEO

There were lots of bad reasons for objecting to the million pound bonus that was going to be paid to the Royal Bank of Scotland (RBS) chief executive, Stephen Hester.

Bonuses for bankers are hardly wicked in themselves, and by industry standards his was relatively modest. Nor does it matter that he is working for a company that is effectively state-owned. RBS is meant to operate on normal commercial principles in every other respect there is no reason why the CEO's remuneration should be exempt from that.

But there was one good reason to object: Hester isn't doing a very good job of managing the bank. RBS is fast turning into a catastrophe. It isn't going to be privatised anytime soon. Its investment banking unit is an albatross. The longer it remains in the state sector, the worse it will get. The best thing to do now would be to shut half of it down and sell off what remains. If Hester realised that, he really would be worth a million but he doesn't show any sign of the mental agility to change a strategy that isn't working.

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The empire Fred Goodwin put together at RBS was an over-leveraged shambles a ramshackle collection of insanely ambitious loans, and poorly executed acquisitions. When the credit crunch struck, it was hit as hard as any bank outside Iceland.

It had ramped up on easy credit and was left dangerously exposed when the downturn started. Arguably, Gordon Brown and Alistair Darling could have let it go bust, stepping in simply to keep the RBS and NatWest cash machines working. But they didn't. Instead, they pumped in £45bn of taxpayers' money, assuring us the bank would be nursed back to health, and that taxpayers would eventually see a return on their investment.

Hester was put in charge of achieving that goal. His original plan was straight-forward and perfectly reasonable. It was to hold the bank together, get rid of the worst of the loan book, divest some of the more bonkers Goodwin-era acquisitions, and wait for an upturn in investment banking to return it to profitability. As soon as it was making money again, the government would flog it back to the private sector faster than you could say shred'.

The schedule was to privatise it this year. There is no chance of that now the shares are still trading at around half what the government paid for them. The British banking market remains in the doldrums, and many of RBS's extravagant loans are still turning sour.

Only last month, it emerged it was one of the main lenders to troubled clothing chain Peacocks and struggling retailer HMV. It will be a miracle if it doesn't suffer major write-offs on its exposure to the over-leveraged British high street.

Even worse, the investment banking industry now looks to be in long-term structural decline. All the major global investment banks are rapidly shedding staff and closing down loss-making divisions. New regulations have started to bite, permanently reducing industry returns.

Even the big hitters are struggling to make much money. Despite the hundreds of millions in salaries and bonuses lavished on its staff, RBS was never a top-flight competitor. It's now a struggling second-division player in a declining industry hardly a comfortable place to be.

Hester's plan is in tatters. The British economy isn't recovering and neither is investment banking. It will have to remain state-owned for many years to come. But the longer it is, the worse it will get. RBS is becoming subject to political pressure.

Last month, it was in trouble for pulling the plug on Peacocks when critics said it should have supported jobs. Now it's the CEO's salary. The politicians and the press are getting used to the idea that it is publicly owned and expect it to act more like a government department than a commercially run bank.

In many ways, that is fair enough. Why shouldn't it respond to public pressure? But the trouble is, if it's run as a branch of the state, it will only go downhill. Its loans will prop up bankrupt companies that employ lots of people, and its staff will be made up of people who didn't quite make it in the Ministry of Agriculture. It is inevitable, and probably unstoppable. But it's not a recipe for a successful bank that could be sold back to private investors.

The only realistic option is a radical break up. The investment banking business should be stripped out and each unit sold for whatever anyone is willing to pay. Any units that can't be sold should be handed over for nothing to the staff: let them sink or swim as partnerships.

After that, split up NatWest and RBS into two separate retail banking chains, and sell both and if they won't sell, float them as independent companies. The British banking industry could use more competition, having two brands under the same corporate roof doesn't make sense.

Taxpayers will probably never get their £45bn back. But something could be salvaged from the mess. A million pounds would be cheap for a CEO with a strategy that could sort out RBS. But for one whose strategy looks less and less convincing by the week, it would have been a criminal waste of money.