Then you will know the truth, and the truth will set you free
—Gospel of John, 8:32
I'm sure many of you are familiar with The Baseline Scenario, where former IMF chief economist Simon Johnson (now at MIT) holds sway along with colleagues James Kwak and Peter Boone. I read the website avidly for months before I finally got disgusted.
Here's the thing: Simon Johnson goes on and on and on about breaking up the Too-Big-To-Fail banks and about their inordinate political influence—economists call this rent seeking. And he's right about everything. Just after we bailed the banks out, we should have begun the process of breaking them up, spinning off internal divisions, selling their assets, making shareholders eat the losses, etc. Economist Allan Meltzer said "capitalism without failure is like religion without sin." Damn right.
Plus, the remaining banks are even bigger and haven't changed the way they do business. They are an ongoing threat to everyone's safety. We are taking enormous risks by allowing them continue in their current form.
So I have no argument with any of that. What I do object to is this: who exactly is Simon Johnson trying to persuade to do something about these problems? Is it the Congress? Only they can pass a law changing the current regime. Here's Illinois Senator Dick Durbin talking about the banks' influence in Congress—
Sen. Dick Durbin (D-Ill.) has been battling the banks the last few weeks in an effort to get 60 votes lined up for bankruptcy reform. He's losing.
On Monday night in an interview with a radio host back home, he came to a stark conclusion: the banks own the Senate.
"And the banks -- hard to believe in a time when we're facing a banking crisis that many of the banks created -- are still the most powerful lobby on Capitol Hill. And they frankly own the place," he said on WJJG 1530 AM's "Mornings with Ray Hanania."
So, there's a more fundamental problem here. Michael Lewis' commentary says it all.
July 28, 2009 (Bloomberg) -- From the moment I left Yale and started working for Goldman Sachs, I’ve felt uneasy interacting with those who don’t.
It’s not that I think less of Goldman outsiders than I did while I remained among you. It’s just that I feel your envy, and know that nothing I can do or say will ever persuade you that I am no more than human.
Thus, like many of my colleagues, I have adopted a strategy of never leaving Goldman Sachs, apart from a few brief, spasmodic attempts to make what you outsiders call “love” or “the beast with two backs.” Goldman recognizes how important it is for its people to replicate themselves. We bill no performance fees for the service.
Today, the sheer volume of irresponsible media commentary has forced us to reconsider our public-relations strategy. With every uptick in our share price it’s grown clearer that we who are inside Goldman Sachs must open a dialogue with you who are not. Not for our benefit, but for yours.
America stands at a crossroads, and Goldman Sachs now owns both of them. In choosing which road to take, ordinary Americans must not be distracted by unproductive resentment toward the toll-takers. To that end we at Goldman Sachs would like to dispel several false and insidious rumors.
Rumor No. 1: “Goldman Sachs controls the U.S. government
Every time we hear the phrase “the United States of Goldman Sachs” we shake our heads in wonder. Every ninth-grader knows that the U.S. government consists of three branches. Goldman owns just one of these outright; the second we simply rent, and the third we have no interest in at all. (Note there isn’t a single former Goldman employee on the Supreme Court.)
What small interest we maintain in the U.S. government is, we feel, in the public interest. Our current financial crisis has its roots in a single easily identifiable source: the envy others felt toward Goldman Sachs.
So give me a break, Simon. If you're really serious about our problems—see Too Politically Connected To Fail In Any Crisis—then stop being a publicity hound and Make A Concrete Suggestion about how we're going to fix this Wall Street-Washington Axis of Evil.
MARCY KAPTUR: That says to me that Wall Street and Washington is a circuit. And because Mr.Geithner headed the New York Fed that that historic relationship, unfortunately, continues. And it gives them special access and special power to influence policy.
SIMON JOHNSON: Well, I think it really tells you how the system works. The system is based on access and is based on what on Wall Street shaping Washington's view of what's important.
It's the people who are very close to Mr. Geithner before when he was the head of the New York Fed. Before he became Treasury Secretary. These people have unparalleled access. And in a crisis, when everything is up for grabs, you don't know what's going on, the people who will take your phone calls, right, in government and people who are going to be standing in the oval office, making the key decisions. That's the heart of the system. That's the heart of how you get your agenda through, by changing their worldview.
Yes, yes, yes. By now, Simon, you are probably aware that the Supreme Court struck down any limits on corporate campaign contributions or related advertising. I know you are aware of it because some comments on your blog mentioned it, though apparently you didn't think the news was worth blogging about.
We're utterly f***ked. What the hell are we supposed to do about the banks now that they can buy & sell Congressmen without limit? Are we supposed to storm the Capitol Building? Relive the French Revolution and start cutting off some heads? Obviously not. What are we to do, Simon? You've got a blind spot we can drive a truck through. Or maybe you're just angling for a job. Good luck with that!
Clearly it's impossible to Make A Concrete Suggestion about how we fix all this—if Congress is bought & paid for, there isn't one. Simon Johnson has not been candid about our corruption problem. So, he's right about the Finance system, but it's mostly empty talk. Which is why I quit reading The Baseline Scenario.
As a result, investment bankers are overpaid. Now, before all the bankers get all indignant on me, let me say that bankers should make more money than average people, at least according to the normal rules of our society; for one thing, they are, on average, better educated than most people. (As I’ve written before, I don’t think there’s any moral reason why people should make more money simply because they are better educated, or have unique skills, or are more intelligent, or work harder; but that’s the way the world works, and most people are OK with that in principle.)
How much more overpaid? I’ve previously written about the paper by Thomas Phillipon and Ariell Reshef on wages in the financial industry. According to Figure 10, you would expect wages in finance to be about 30% higher than in the economy at large because of higher education and lower job security; yet, also according to Figure 10, wages in finance were over 70% higher than average earlier this decade. 40 percentage points divided by 1.7 implies that wages should come down by about 25%. This an industry-wide figure, however, and recent wage growth has been much higher in investment banking than in the rest of the industry (largely banking and insurance), so 25% is probably a very low figure for investment banking. But without more data, that’s the best I can do.
Now, Philippon and Reshef’s data only go through 2006. In 2006, Goldman paid $16.5 billion out of $31.1 billion of its profits to employees (53%, the same as in 2007), which worked out to about $620,000 per employee. (In 2007, that figure was about $660,000.) Subtracting 25%, we get that Goldman employees should have earned abut $470,000 on average. This is probably still much too high, because that 25% figure is undoubtedly far too low for investment banking. But it’s a starting point.
Now, what did Goldman do for 2009? Through September, they had already set aside $16.7 billion for compensation, a 57% payout ratio; annualized, that comes to a stunning $22.3 billion, or $700,000 per employee. In Q4, however, they did the unthinkable; it reduced its compensation expenses by $500 million.** This lowered the annual compensation pool to $16.2 billion, or $500,000 per employee, and lowered the payout ratio to 46%.
And for lowering their annual compensation pool to $16.2 billion, the Giant Vampire Squid should be praised. But James suspects this might just be a PR move by the Sea Monster!
My prediction is that this is just a PR stunt and next year (assuming it is a good one for the banks), per-employee compensation at Goldman returns to at least $600,000 and maybe $700,000. But I would love to be wrong.
It's just all too much for Kwak. Like I said, he's totally confused.