Inside debt, bonus caps, and risk taking in banks

Including unsecured inside debt in compensation contracts of bank managers, as well as capping their bonuses, are some of the rules that regulators propose in an effort to limit risk taking of banks. I show that mandatory unsecured inside debt does not always decrease and in some cases even increases bank risk when implemented in isolation. The joint effect of bonus caps and inside debt can either lead to an increase or a decrease in bank risk, depending on the design of the bonus cap. My paper has implications for policy measures aimed at regulating the remuneration of bank managers.