The 10 federal financial regulatory agencies in our review vary in size, mission, funding structure, whether they bargain with a union, and how long they have been implementing aspects of performance-based pay systems. For example, FHFB is the smallest agency with just over 120 employees, while FDIC, the largest agency, had more than 4,300 employees as of September 2006 and has been implementing pay for performance since 1998. Likewise, these agencies regulate a range of activities including banking and securities and futures. Appendix II includes the financial regulators’ missions, funding structures, and whether they are unionized and bargain with a union over pay and benefits. Under Title 5 of the U.S. Code, the financial regulatory agencies have the flexibility to establish their own compensation programs without regard to various statutory provisions on classification and pay for executive branch agencies. At the same time these financial regulators received increased flexibility regarding compensation, Congress also generally required that they seek compensation comparability with each other. A provision in FIRREA requires six agencies—FDIC, OCC, NCUA, FHFB, FCA, and OTS— in establishing and adjusting compensation and benefits, to inform each other and Congress of such compensation and benefits, and to seek to maintain comparability regarding compensation and benefits. Additional FIRREA provisions require FCA, FHFB, NCUA, OCC, and OTS to seek to maintain compensation and benefit comparability with the Federal Reserve Board. Although the Federal Reserve Board is under no obligation to seek to maintain compensation or benefit comparability with these or any of the other financial regulators, it has agreed to share compensation information with the other financial regulators. The other three agencies are subject to their own compensation comparability provisions. As required by its 1992 enabling legislation, OFHEO must maintain comparability with the compensation of employees from the Federal Reserve Board, OCC, FDIC, and OTS and consult with those agencies in that regard. In 2002 legislation, SEC and CFTC were placed under comparability requirements. SEC must consult with and seek to maintain compensation comparability with FDIC, OCC, NCUA, FHFB, FCA, OTS and CFTC. However, as shown in table 1, this legislation did not require these agencies to seek to maintain compensation comparability with SEC. Similarly, CFTC must consult and seek to maintain compensation comparability with the six FIRREA agencies, but those agencies are not required to seek to maintain compensation comparability with CFTC. We previously identified key practices for effective performance management based on public sector organizations’ experiences both here and abroad. High-performing organizations seek to create pay, incentive, and reward systems that clearly link employee knowledge, skills, and contributions to organizational results. Performance-based systems reward employees according to their performance by using performance ratings as the basis for pay increases. Linking pay to performance can help to create a performance-oriented culture by providing monetary incentives to become a top- performing employee. At the same time, as a precondition to linking pay to performance, performance management systems need to provide adequate safeguards to ensure fairness and guard against abuse. Providing adequate safeguards that help to ensure transparency can improve the credibility of the performance-based pay system by promoting fairness and trust. Safeguards can include establishing clear criteria for making rating decisions and determining merit increases, and providing overall results of performance rating and pay increase decisions to all employees, while protecting confidentiality. Effective performance management systems also make meaningful distinctions between acceptable and outstanding performance of individuals and appropriately reward those who perform at the highest level. As we have previously reported, effective performance management systems can provide management with the objective and fact- based information it needs to reward top performance and provide the necessary information and documentation to deal with poor performers. Overall, the federal financial regulators have implemented key practices for effective performance management systems in ways that consider the unique needs of their organizational cultures and structures, but some have not fully implemented certain practices. For purposes of this section, we focus on the regulators’ implementation of the two key practices of (1) linking pay to performance (which includes building in safeguards), and (2) making meaningful distinctions in performance. First, we found that while the regulators generally linked pay to performance, two regulators awarded across-the-board increases to employees regardless of their performance. Second, while most regulators generally used safeguards in varying ways to increase transparency, one did not establish and communicate performance standards to its nonexecutives, which resulted in questions about how decisions were made and could compromise the credibility of the performance system. Third, many regulators did not fully implement the safeguard of providing overall ratings and pay results to all employees, which reduced the transparency of their performance-based pay systems. Fourth, we found that while most regulators used multiple rating levels to make meaningful distinctions in performance, employees were usually concentrated in one or two rating categories and all had very few poor performers. Finally, one agency did not complete performance ratings for senior officers due to lack of funding for pay increases, thereby missing an opportunity to provide valuable feedback. For information about the other four key practices as well as additional material pertaining to the linking pay to performance practice, see appendix III. All of the regulators awarded some performance-based increases during the appraisal cycles we reviewed that were linked to employees’ performance ratings, although two financial regulators also provided annual pay adjustments to employees, regardless of performance, during the appraisal cycles we reviewed. Specifically, CFTC provided an across- the-board pay increase to all employees to be equivalent to the cost of living adjustment received by General Schedule employees of the federal government in January 2006. During the 2005 appraisal cycle, SEC also provided all employees an across-the-board pay adjustment of 2.1 percent, regardless of their performance. SEC officials noted that this across-the- board pay adjustment was in accordance with the negotiated compensation agreement with the union. While the percentages of employees rated as unsuccessful or unacceptable at CFTC and SEC during those cycles were extremely small (less than 1 percent), these agencies lost opportunities to reinforce the linkage of pay to performance in their performance management systems. CFTC officials told us that the performance-based pay portion of the new performance management system that will begin on July 1, 2007, will require a minimum threshold performance rating for an employee to be eligible for a pay increase. SEC and its union are currently negotiating implementation of a new Compensation and Benefits Agreement, which provides that employees rated as unacceptable will not receive annual pay adjustments. SEC officials acknowledged that a negative perception occurs when employees who are not performing satisfactorily receive a pay increase. Most of the financial regulators used their rating systems to differentiate individual performance to award performance-based increases and reward top performers during the appraisal cycles we reviewed. Furthermore, all of the agencies also provided increases that, while not directly linked to performance ratings, considered employee performance in some way. These increases included special bonuses or awards given to individuals or teams for special accomplishments or contributions, as well as promotions and within-pay-band increases. For example, FCA provided Achievement or Special Act Awards to employees for significant achievements or innovations towards a special program, project, or assignment that contributed to the agency’s or organizational unit’s mission, goals, and objectives. To receive these awards, employees had to have performed their regular duties at least at a fully successful level of performance. FCA also provided some pay increases for competitive and noncompetitive promotions during the completed appraisal cycle we reviewed. Pay increases linked to performance ratings accounted for only part of the total increases awarded to individual employees during the appraisal cycles we reviewed. See appendix III for more information on the different ways in which the regulators translated performance ratings into pay increases and budgeted for performance-based increases, as well as more information on other pay increases that involved considerations of performance. All of the financial regulatory agencies have built safeguards into their performance management systems to enhance the credibility and fairness of their systems, although they varied in how safeguards have been implemented. For example, with the exception of SEC, the agencies have used the safeguard of establishing and communicating (1) standards for differentiating among performance rating categories and (2) criteria for performance-based pay decisions, thus enhancing transparency, which can improve employee confidence in the performance management system. (See app. III for information on the financial regulators’ implementation of additional safeguards.) CFTC’s four-level rating system (i.e., unsuccessful, successful, highly successful, and exemplary) defined the successful level of performance for areas that CFTC had identified as critical to employees’ job performance, and included some information on how to distinguish variations from the successful level of performance. However, an employee representative at CFTC maintained that the rating level descriptions did not sufficiently communicate to employees the skills and behaviors employees needed to demonstrate in order to move, for example, from the “successful” to the “highly successful” level. Employee representatives stated that even though there was helpful guidance on distinguishing between levels of performance in a CFTC manual, these descriptions were hard to understand and most employees did not refer to the CFTC manual for guidance. An agency official told us that the revised performance management system that went into effect in October 2006 is a five-level system, and includes descriptions of all five performance levels rather than only the successful rating level described in the system it replaced. Similarly, OFHEO defined how employees would be rated on its five-level rating scale for each of the performance elements included in their performance plans. These performance standards defined the middle level of performance (fully successful), and included what the rater should look at to determine if an employee is performing better or worse than this benchmark. An employee’s performance for each element was assessed and a total score was determined. OFHEO further distinguished between “high” and “low” levels within rating categories. For example, a rating of “outstanding” would be classified as being in either the high or low level of the outstanding rating category based on the performance score the employee received.