By James Kwak
Gabriel Sherman wrote what I would call a hopeful article last week called “The End of Wall Street As They Knew It.” The basic premise is that the end of the credit bubble and the advent of Dodd-Frank mean lower profits, more boring businesses, and smaller bonuses on Wall Street—permanently (or at least for the foreseeable future). Sherman also says that the former masters of the universe are now engaged in “soul-searching”: “many acknowledge that the bubble-bust-bubble seesaw of the past decades isn’t the natural order of capitalism—and that the compensation arrangements just may have been a bit out of whack.”
Call me a skeptic, but I’m not convinced. For one thing, there are few people quoted in the article who actually seem to be engaged in anything that might be called soul-searching (as opposed to complaining—like the now-clichéd banker who watches his spending carefully but has a girlfriend who likes to eat out). The story’s featured voices are ones that are not on Wall Street and have been critical of it for a long time, such as Paul Volcker and John Bogle. Another example of “self-criticism” comes from Bill Gross—but’s he’s on the buy side, not Wall Street.
There are certainly bankers saying that the business is getting tougher, but that’s a cyclical thing. Profits were lower in 2011 than in 2010 because the economy was weaker in 2011 than in 2010. Jamie Dimon also gets a lot of words in, saying that banking is becoming a more boring business that he actually likens to Wal-Mart or Costco. But Jamie Dimon is essentially a politician, the elder statesman of the banking industry, so while I like what he says, I wouldn’t take it at face value.
My main worry is that the regulations we have are still fundamentally reactive, the people on Wall Street are extremely smart, they have access to a lot of money, and they will come up with new businesses that will make lots of money and create new risks for the financial system and the economy.
The Baseline Scenario 
While trading may be very visible and glamorous, it is a zero-sum game and cannot provide profits without extracting them from someone else. Another way to think about this issue is to look at the sources of the cash flow which feeds Wall Street. I don’t know the numbers, but I suspect that one very large component must be the flow of payments on outstanding debt. Wall St probably claims a substantial fraction of this flow by intermediating, transforming maturities, trading, and managing portfolios, as well as direct lending. This could help to explain why the financial industry came to be so large in recent years as credit grew.
While the exact methods of extracting profits may vary over time and with type of debt, as long as there is debt out there, Wall St will take its cut of the cash flow. So I expect Wall St will have to shrink with deleveraging and reduced interest rates, but I suspect that it will remain outsized until the total outstanding debt returns to more normal levels.
“My main worry is that the regulations we have are still fundamentally reactive, the people on Wall Street are extremely smart, they have access to a lot of money, and they will come up with new businesses that will make lots of money and create new risks for the financial system and the economy.”
You act like this is a bad thing. It’s an iterative process. Businesses have intrinsic incentive to skirt the ethical line; that’s what their shareholders and consumers demand from them implicitly with dollar-votes. We wouldn’t have tons of the value and wealth creating innovations we have right now if it weren’t for smart financial folks inventing new ways to legally take risks. Lots of people wouldn’t have a home right now (way more people than lost a home to shoddy mortgages) if we didn’t invent those risks. People want to complain that a negative result came of it, but just want to overlook the huge increase in wealth, standard of living, and equity that it brought to most of them.
@bob – just one itty bitty piece of *real* data to back up your reality would be welcome
your un-reasonableness is based on a rationalization that the only way to get a lot of something is without doing anything of value…a *business model*, that if applied to the dependability of the physics that keeps the sun shining on the just and unjust, would mean that the top .01% of the 1% has the *power* to stop the rotation of the earth both on its axis and around the sun, and rule from the sunny side of the planet…
if that happened – the earth stopped spinning on your command – you would have nothing to *profit* from rather quickly…
Check the charts on homeownership rate. Also please check with the census data. Especially figure 4, showing homeownership rates dropping at a steady rate since 2005, well before the recession.
The housing bubble, which average consumers endorsed with their dollars by signing up for irresponsible loans, offered the opportunity to own a home to a lot of people for whom that wouldn’t have been possible under different lending conditions.
The percentage of Americans owning a home rose (as did the total population) and so now, despite the very misleading statistic that homeownership expressed as a percentage has fallen to pre-2000 levels, the net result is that more total people still have homes and weren’t foreclosed upon (even if their mortgages are now bad, their property value decreased, etc.)
Owning a home, regardless of equity, represents a significant amount of actual wealth (you know, like having a warm place with a kitchen and a bed and stuff, like most of the rest of the world doesn’t own). If you think wealth of a homeowner is only measured in the equity of their home, then I’m sorry but I can’t help you. Value is a function of what resources you have, and that determines wealth. Equity is certainly a part of that, but the literal wealth of what you own is also a huge part of that, and loads of people benefited in this way.
@ Annie, I study physics. The stuff you say makes no sense at all. There’s no such thing as the ‘dependability’ of physics. (a) we’re always discovering the ways in which our models are wrong and need to be adjusted to account for reality and (b) dependability is an anthropocentric concept, not an intrinsic one. If someone’s willing to pay money for a business plan, then that plan has value implicitly just because of that willing buyer.
The ballooning unregulated swaps market, is, in my opinion, just a ‘stratospheric’ version of the no-doc no-collateral component (‘unregulated’ by another name) of the housing bubble. The most meaningful difference between the two being one of magnitude.
Foreclosures have essentially be halted by the threat of lawsuits in 49 states. We are going to see an increase in foreclosures, and a reduction in home ownership, if it is approved. The housing bubble crash isn’t over yet.
@James Kwak “My main worry is that the regulations we have are still fundamentally reactive, the people on Wall Street are extremely smart”
And my worry is that the regulators (and many experts) are thick-as-a-brick
I mean how much intelligence does it take to figure out that if bankers have already adjusted the terms of their loans and investments to the risks that are perceived, forcing them also to adjust to the capital requirements based on the same perceived risk, has to mean an overweighing of risk-perceptions.
It is precisely the double dipping into perceived risks, that have saddled our banks with excessive exposures to what is has officially been perceived as not-risky, like triple-A rated securities and infallible sovereigns; and equally dangerous underexposures, like for instance in lending to small businesses and entrepreneurs… only because the latter have officially been deemed more risky by some wimpy bureaucrats.
Basel Committee, please stop infantilizing our banks!
@ Annie, I study physics. The stuff you say makes no sense at all. There’s no such thing as the ‘dependability’ of physics. (a) we’re always discovering the ways in which our models are wrong and need to be adjusted to account for reality and (b) dependability is an anthropocentric concept, not an intrinsic one. If someone’s willing to pay money for a business plan, then that plan has value implicitly just because of that willing buyer.
@bob – let me make it clear – YOU are still discovering what the stability IS. But you BELIEVE that the sun rises in the East every morning because YOU know how that happens….? Really?! I can see why you don’t *understand* me – and I can’t possibly explain to you how little I care about what you have to say about *economics* or *physics*…
Every human being has the right to make their lives less miserable through honest work.
You get in the way of that basic right, well, all options are on the table…
Congratulations, all, on burning down Greece – stock market shot up on that good news….hmmmm, where will all the German girls go to now in order to run away from marrying German men…?
“Every human being has the right to make their lives less miserable through honest work.”
Define ‘honest work’ and why should we accept your definition of that? Also, what happens to this policy when resources are scarce?
NOW< Ohio GOP governor wants to SELL OFF the turnpike system and the toilets at rest stands to VULTURE capital.
When are a majority of Americans going to become cognizant that these ripoffs are on-going, and are, in fact, ostensibly accelerating here, as in Greece, and everywhere else these vultures are eyeing?
These moves make everyone poorer, except the VULTURES.
@Woop “NOW< Ohio GOP governor wants to SELL OFF the turnpike system and the toilets at rest stands”
If that sale is to who will offer to provide the services at the lowest price, then it is not necessarily so bad… users could even create a turnpike cooperative… but, if the sale is to who bids the most, so that users get stuck with having to pay the most for decades, then you are only being dug deeper in the hole where someone has placed you.
@bob – “…Define ‘honest work’ and why should we accept your definition of that? Also, what happens to this policy when resources are scarce?…”
Right back at you – why should anyone accept YOUR *definition* of anything, either? Would love to hear what it is that makes a *thief* decide that resources are scarce…
The Global economy – with the 1.2 quad of derivatives – is SAVAGE. It is in no way different in any shape or form, from the Congo story, wait until the harvest is finished, attack the village, kill all the producers, and live off their labor for a year – then do it again….
Back to *honest work* – let’s meet and I’ll show ya my definition…FTF
I guess you are getting ready to splatt on the blog why no one has the *right* to make their lives less miserable…and that’s your definition of *honest work*, right?
You’re sounding more like a 99% bully each and every day. Didn’t you get the message that there is always a bigger bully than you, that can show you what an honest days work at boxing is. Are you trying to be an idiot, you moron?
Name the time and place, Mouse. You show me your *honest work*, I’ll show you mine.
Here’s a new flash for you – along with human beings having the right to make their lives less miserable through honest work is the right to mow down the savages wanting to steal the fruits of their labor.
Long overdue to whittle back the psycho gene in the *white* race…
Well, I already told you the time, but you can’t seem to wait that long, your story’s the same each and every day, but less than negative is not impressing too many people right now. I prefer Bill Murray’s look on life. Get to the point where you can take care of yourself, and then try to help others. If you feel you didn’t get a fair shake along the way, there is an obvious reason for it, though you may not see it. Mow if you need to, just don’t get caught at it, life is not a joke, unless YOU make it one.
@Mousy – You don’t have the capacity to perceive that there is something very alarming about your state of mind – proven by your irrational hatred of me and the fact that you only post on this board when it’s to do an ad hominem attack on me…I have no idea what you mean – “mow if you need to” – and I don’t take the advice of a deeply disturbed mind or hold their opinion in any regard.
You are just another drive by shooter that reminds people that we really do need to get serious about cleaning up the gene pool – especially among the 1%….
Huh? Didn’t understand your own statement. I didn’t say that I hated you, I hate watching a dog chase its own tail though, and that’s about all I see, besides your back against the wall.
Don’t mind me, this is only a test:
http://www.blogger.com/blogger.g?blogID=1001982844413223115#editor/target=post;postID=6020052634226962888
@mousy – and it’s all a teaching moment, isn’t it? In the predator’s mind, which is what you have, all you have the capacity to see is a cornered dog chasing it’s tail.
Why would people who already stole more than they could ever *spend* back into any economy want to bother with the incessant targeting, stalking and eliminatio of valued human archetypes – the scientist, artist, statesman, craftsman etc – those in service to the GOOD in humanity?
Simple. The only pleasure that ever drove you all to begin with was sadism. I, and many others, have witnessed the joy and satisfaction that having the power to make an individual suffer gives the 1%. It’s not just about the money and the greed. It’s the stalin syndrome – you can’t write into the history books about your *superior* genes unless you make sure everyone obviously better than you on every imaginable measurement of *human being* is made to suffer – made poor – before they are killed.
You’re so immersed in your hatred of me that you can’t even turn around to see what’s stalking YOU from behind…so enjoy your nanosecond of power over the cowering dog you perceive me to be…
Wish I could get $$$ sent to me for teeing you up for your parole officer – you are never getting out of containment…yet another Urantia experiment in channeling gone awry – go figure the *wisdom* of providing psychos with a *religious* revelation…the Men Who Stare at Goats…
The personal code I live by exceeds your Predatory Living 101 philosophy by light years and was *truth* back when earth just began to acquire enough mass to generate gravity…so I don’t NEED to play by your rules….
@ Per, when does it work in the former as opposed to the latter case?
Although I appreciate balance in your worldview, PER, making VULTURES appear altruistic is a bit of a a big bite.
Take care, good hearing from you, Per.
Now Annie, there is much more to life than a dictionary, a table of elements, and the Urantia Book. I follow no one, and no one stalks me from behind. The probation officer is on the wrong side of nature when it comes to me, and I could really care less about him. My Earth is the one between my thumb and my ear, its the only one that deserves attention. Where might yours be? And who made the rules, and named the parts of the body if you are so old.
@mouse – off meds, eh?
My existence does not depend on the space between your thumb and ear – ick to the idea…so if that is all you are concerned with, why do you come out of that dark hole space to bitch-slap me? Why should I concern you? Answer: You get sadistic pleasure from it. And you are not alone…millions of *inwestors* pump trillions into *facebook* virtual realities because it affords them the same abuse of first amendment *freedom* – you can bitch-slap at will from the comfort of the craptop gizmo…
Greedy bastards are also irrationally cheap bastards…no one needs to TOLERATE such *tribal* cretins…INCOMPETANT as *leaders* is the mildest way to put it…
Press-free NATO summit? Filming cops on the street illegal in Chicago
Published: 07 February, 2012, 22:27
“Chicago, Illinois plans to host more than 7,500 international dignitaries and 3,000 journalists at the G8 Summit this spring.”
http://rt.com/usa/news/summit-chicago-law-public-725/
[The summit in May will focus on Chicago and Wall Street will look like a rendition of Dixie Land’s “Oh when the Saints come marching in…” when you compare the two: here’s what to expect from the hometown of Milton Friedman and The variety of Chicago style smart mobs]:
http://rt.com/usa/news/summit-chicago-law-public-725/
“Under the Eavesdropping Act in Illinois, catching a cop crack down on a protester is a Class 1 felony. If budding videographers think they might be the exception come this spring, think again.”
http://rt.com/usa/news/summit-chicago-law-public-725/
“Christopher Drew thought he was exercising his First Amendment when he recorded an altercation with cops in 2009, but for the Chicago, Illinois artist, he couldn’t be further from the truth. He was approached by an officer with the Chicago Police Department three years ago and questioned about the artwork he was selling on the city’s State Street. When law enforcement realized that they were being recorded, Drew was dished felony charges under the eavesdropping law and ended up spending a few days in jail. Drew asked an Illinois judge to dismiss the hefty felony charge, but the court rejected his plea. Later this year his case is expected to go to trial, and if found guilty, Drew could serve 15 years in prison.”
http://rt.com/usa/news/summit-chicago-law-public-725/
[and}
“And as police prepare to clash with protesters who picket the annual meeting of the minds, the crime scenes that are expected to be marred by messy arrests might never be made available outside of Chicago. In the state of Illinois, an obscure eavesdropping law prohibits recordings of unknowing individuals. Even if a cop is caught clobbering a protester on the streets of Chicago, recording the incident can land both amateur photographers and seasoned journalists alike behind bars, where they could face sentencing on par with charges of rape and murder.”
http://rt.com/usa/news/summit-chicago-law-public-725/
Press-free NATO summit? Filming cops on the street illegal in Chicago
Published: 07 February, 2012, 22:27