Rather than claw back already-paid bonuses of about $18 billion, as some grandstanding Democrats suggest, Wall Street firms should issue common stock to employees in that amount and require them to invest the after-tax portion of their cash bonuses in the stock of their firms. The proceeds should be used to repay the government for funds injected into their firms. That will satisfy the public, which quite reasonably objects to the use of its tax money to compensate bankers who make an order of magnitude or two more than the average taxpayer, and it will incentivize the bankers to work hard and manage risks well.

Most financial equity is trading at option value (that is, the price of the stock is about the same as the standard models’ price for a lon-term option on the stock). If the firms propose to continue in business with taxpayer support, they must believe that their equity will be worth a multiple of its present price. Any employee who has a different view clearly does not share the business philosophy of the firm and should find other work.

In fact, most bankers have lost most of their net worth in the past couple of years. It is typical for Wall Street types to leave their stock in the firm and treat it as a long-term investment, while spending the cash portion of their bonus (and many borrow against stock as well). With CItigroup and B of A trading around a tenth of their peak prices, bankers have given back most of their bonuses of the past several years. Those who still are employed might as well be all in.

In the future, bonuses should be paid in restricted stock that cannot be sold for a couple of years. A substantial part of bonuses at firms that have given the government equity warrants should be paid in equity options with a strike price set at $1 above the government’s strike price. It should be clear that if there is a windfall, the taxpayers get paid first. No-one will object if bankers get rich three or five years from now, if the taxpayers get a windfall first.

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