Alistair Darling is heading for a potentially disastrous showdown with Royal Bank of Scotland over plans to pay £1.5bn in bonuses to its staff.
Mr Darling is to be granted the right to veto bonus payments at the bank, which will soon be 84 per cent owned by the taxpayer, but has been warned that doing so could leave RBS's board with no choice but to resign en masse.
The impasse leaves the Chancellor with the dilemma of waving through potentially huge bonus pay-outs at RBS just months before a general election or plunging the bank, which has already received unprecedented support from taxpayers despite widespread fury over bonus levels, into further crisis.
RBS, which is already 70 per cent owned by the taxpayer, revealed that the Government has moved to take control of its bonus pool for 2009 in a circular received by shareholders yesterday, outlining its plans to join the state-backed toxic asset insurance scheme.
RBS warned shareholders that the Treasury will have the right to oversee "the quantum and shape of the 2009 bonus pool" and that this was an "essential" condition of the bank joining the so-called asset protection scheme (APS). Shareholders will vote on the bank's participation in the APS on 15 December and if it proceeds, the government stake will rise to 84 per cent.
The board is due to make its recommendation on bonuses by February, with a total pay-out forecast to be around £1.5bn, and pass it on to the Government to be signed off. Should the amount be blocked there would be no other option for the board but to quit, according to the legal advice received by directors, insiders said.
Michael Armstrong, a consultant on pay issues including bonuses, called the move unprecedented. He said: "This looks to me like a political move from the Government. In the light of the climate of opinion over bankers and bonuses, the Government has to show it is doing something."
The move to take over the bonus pool has also sparked fears from the group that there might be an exodus of bankers to rival firms. "This requirement may adversely impact RBS's ability to attract and retain senior managers and other key employees," RBS said, "and thereby place RBS at a significant competitive disadvantage against its competitors."
Mr Armstrong said: "Whenever there are moves to limit bonuses, the banks always use that argument. It is sometimes the case that they are desperate not to lose the most talented traders and bankers, but for most, where would they go in this climate?"
Peter Montagnon, director of investment affairs at shareholder body the ABI, said the bank "must not overpay, but it must also be able to pay commercial rates". The ABI will today issue an amber-top warning over RBS, which means the issue requires careful judgement from shareholders.
Mr Montagnon called on the board to act in the interests of all shareholders. He said: "It would not be acceptable to yield to the short-term wishes of one shareholder if this means sacrificing value for all."
The issue of bonuses has caused fury among politicians and the public, especially for bankers at the part-nationalised banks. Stephen Hester, RBS's new chief executive, was in the firing line when details of his almost £10m remuneration package emerged in July.
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