Abstract
Regulators restrict bankers' risk-taking incentives by using a bonus cap or by extending the effective bonus accrual period. We build a structural model to assess the effect of these bonus restrictions. The calibrated model suggests that extended bonus accrual periods alone do not lead to lower risk-taking while a suffi ciently tight bonus cap does. A bonus cap that equals fixed salary (as in the EU) reduces risk on average by 13%.
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