The New York Times / August 14, 2009 Inside the Markets Bailouts Helped Drive Higher Pay By JAMES SAFT
Rising pay in the finance sector after the global financial crisis is no surprise and is driven partly by the U.S. government’s bailout and the underwriting of banks that are too big to fail. News that some financial firms that benefited from government largess had increased the share of revenue they would pay their employees incited a lot of outrage but not a lot of answers. The good news is that this new bulge in pay may not be sustainable. The bad news is it will probably be stopped only by further regulation, which may never come. To understand what is going on, an explanation is needed of the economic concept of “rents.” They are essentially the extra money a given individual or industry is able to extract from its clients above what it would be able to if there were perfect competition. A monopoly will charge a very high price for goods or services because — well — it can. Needless to say, economic rents are not a good thing, unless you are in receipt of them. Workers in financial services have been huge beneficiaries of economic rents in recent years. They sell products that are complex and poorly understood by clients. They have been very lightly regulated, and it has been hard in many areas for start-ups to compete with large firms and drive down prices, as the complexity of such products raises the entry barrier. A study by the economists Thomas Philippon of New York University and Ariell Reshef of the University of Virginia found that 30 percent to 50 percent of the extra pay bankers received, compared with that of similar professionals, was attributable to rents. In other words, banking is able to overcharge its customers and bankers are able to capture a huge portion of that for themselves. Why? Because they do not face enough competition, their products are too complex for clients to understand and bargain effectively and, crucially, regulation allows this state of affairs. Rising complexity, in my view, has probably occurred at least in part because it drives margins and tilts power away from a bank’s clients and shareholders and toward employees. “The more complicated the product, the easier it is for people to hide the risks,” Mr. Reshef said during an interview. The study shows that excess pay in banking is very closely linked to lax regulation, as opposed to higher productivity or early adoption of technology. Relative compensation in finance in the early part of the past century peaked not in 1929, before the crash, but several years later, just before more stringent regulations kicked in. Relative compensation began to climb again in the 1980s, with deregulation, and has risen like a rocket since 1990. The economic crisis, far from undermining circumstances that allow for rents and excess pay, has in some ways cemented them. One area of complexity, asset-backed finance, has been eviscerated, but many others sail on relatively unaffected. Most important, the doctrine of “too big to fail” has confirmed and reinforced the superior market position of those banks and investment banks that survive. The United States has made it known that the current players will not be allowed to fail. These banks had an advantage already, based on their size; that advantage is now greater and carries a government guarantee. Ladies and gentlemen, this is the banking recapitalization program: an unfair playing field. I might be able to swallow that, as the economy needs a banking system. But if you believe Mr. Reshef and Mr. Philippon’s data, a good part of the essentially unearned money that should be going to recapitalize the banks is instead overpaying bankers. It is true that part of the reason banks are paying their best people so much is that a tectonic shift in banking will place a higher premium on the most talented. Fair enough, but only if there is a shrinking pool of compensation money being tilted toward a smaller elite. The constant rise in the rents extracted by bankers from the economy will really be stopped only by government intervention, since, given a system of bank insurance, it can exist only with government connivance. If you look at the Great Depression, this process will take about four years. This has not been a very encouraging start. James Saft is a Reuters columnist. Copyright 2009 -- Jim Devine / "All science would be superfluous if the form of appearance of things directly coincided with their essence." -- KM _______________________________________________ pen-l mailing list [email protected] https://lists.csuchico.edu/mailman/listinfo/pen-l
