News - Opinion

Monday, Nov. 02, 2009

Five myths about Wall Street

The financial crisis is now more than a year old, and Americans are still angry — angry that the economy tanked, angry that they’re out of work. But mostly, people seem outraged by Wall Street bonuses. Seeking to assuage that ire, the Obama administration’s “compensation czar,” Kenneth Feinberg, announced plans to cut the pay of top executives at the seven companies receiving federal support through the Troubled Assets Relief Program. He has suggested that the cuts, which slashed pay for top executives by an average of 50 percent, should be a model for the rest of Wall Street and corporate America. In outlining the change, Feinberg has had to grapple with several misconceptions about Wall Street bonuses — myths that have circulated since the beginning of the crisis.

1The Wall Street bonus culture led to the financial crisis.

There is absolutely no evidence to support this. The crisis was caused by a combination of:

o Lax monetary policy.

o Loose regulation across the entire financial sector.

o Yield-chasing by institutional investors craving decent returns in a weak market.

o A vast global banking industry that turbocharged the whole process.

The bonus system, which has always been part of the securities industry’s DNA, may have encouraged risk-taking by major banks, but it also encouraged risk management and other disciplined forms of corporate governance that are supposed to accompany the incentives. In a number of cases, however, these risk-management systems were totally inadequate in the face of the market tsunami that enveloped mortgage-backed securities after home prices began to drop in 2006. The storm carried away several firms, but others performed well despite the difficulties. It wasn’t the bonuses that brought everything down; it was a combination of many things, some sloppy or foolish, and most far more important than bonus checks.

2Wall Street is totally indifferent to Main Street.

For people in the rest of the country to get past their bonus rage, they will have to accept that Wall Street professionals are not out to get them and that they actually do some good for the world. “Wall Street” now represents a global capital market that in 2007 comprised $145 trillion in market value of stocks and bonds, less than half of which was located in the United States. This is a sophisticated marketplace in which firms compete aggressively to secure trade orders and assignments from large corporations and financial institutions. The intense competition for virtually every trade lowers the cost of capital and widens access to financial markets for companies, institutions and governments all over the world. Collectively speaking, Main Street is Wall Street’s client and generally has been very well taken care of. In this crisis, Wall Street professionals, through carelessness or errors, lost a lot more money than Main Street did, and probably more, proportionately, lost their jobs too. Wall Street didn’t benefit from the market declines, and only in the past few months has it recovered some of what it lost.