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The UK has said it will scrap a cap on bankers’ bonuses that was inherited from the EU as part of its post-Brexit push to boost the City of London.

The move follows a consultation this year on whether to abolish a 2014 rule limiting bonuses to twice base pay for employees of banks, building societies and investment firms.

The UK’s top financial regulators argued against the ban when it was introduced, and since leaving the EU the government has claimed its removal will increase the post-Brexit competitiveness of the City by making London a more attractive place for banks to base their staff. 

In a report on Tuesday, the Bank of England’s Prudential Regulation Authority, which carried out the consultation with the Financial Conduct Authority, said “a bonus cap is not routinely imposed in other leading international financial centres outside the EU”.

“The bonus cap has been identified as a factor in limiting labour mobility. The final policy . . . [removes] this barrier in the UK,” it said.

The changes would allow companies to reduce pay faster in economic downturns, making them safer from a financial stability perspective, the watchdog added.

In a separate statement, the FCA said the changes “should also help remove unintended consequences of the bonus cap”.

It cited “the growth in the proportion of the fixed component of total remuneration, which reduces a firm’s ability to adjust variable remuneration to absorb losses or for material poor performance or misconduct that subsequently comes to light”.

The new rules will take effect on October 31 and apply to this financial year and future ones.

Finance bosses privately gave a hesitant welcome to then chancellor Kwasi Kwarteng’s announcement last September that the UK would abolish the measure, fearing a public backlash. They originally opposed the bonus cap because it forced them to lift fixed pay to retain staff.

When the idea of scrapping the cap was mooted in June last year, Labour leader Sir Keir Starmer said the Conservatives’ plan amounted to “pay rises for bankers, pay cuts for district nurses”. But the opposition party has since embarked on a charm offensive to win the City over ahead of the general election expected next year.

HM Treasury said: “Decisions on remuneration in the banking sector are for the PRA as the independent statutory regulator.”

PRA chief executive Sam Woods said in September 2021 that the regulator had “never been a big fan of the bonus cap” since it reduced companies’ flexibility to cut costs during a downturn.

The change to the approach to implementation would also achieve the secondary PRA objective of facilitating effective competition as firms would be able to immediately apply the change, giving them more flexibility to share risk with employees.

But Paul Nowak, general secretary of the Trades Union Congress, the umbrella body for the UK labour movement, criticised the decision as “obscene”.

“At a time when millions up and down the country are struggling to make ends meet — this is an insult to working people,” he said, adding that the removal of the cap added to the case for “a national conversation about taxing wealth”.

The bonus cap was introduced in the EU to end the era of unlimited bonuses giving an incentive to finance workers to take huge risks, which was seen as a threat to financial stability in the wake of the 2008-09 financial crisis.

The UK has introduced other rules concerning pay to curb the threat to stability. These include requiring a percentage of bonuses to be paid out over a number of years, and allowing bonuses to be clawed back in cases of misconduct, poor individual performance and sometimes poor company performance.

After the removal of the bonus cap, UK regulators said they wanted firms to ensure fixed pay and bonuses were “appropriately balanced” and that no individual was “dependent exclusively on variable remuneration, or to an extent likely to encourage them to take risks outside the risk appetite of the firm”.

But Anne Sammon, partner at law firm Pinsent Masons, said there was a “risk associated with creating a two-tier workforce where new employees are paid lower salaries but with higher bonus potential”.

“Those who received increases to fixed pay when the bonus cap was introduced will be contractually entitled to those higher salaries and so will only give those up where they are offered some incentive to do so,” she added.