Today’s NYT Dealbook headline reads (underlines added for emphasis):
Top banks will need an extra $221 billion of capital and see annual profits slump by $110 billion if all proposed regulations to reform the industry are brought in, leading analysts said on Wednesday, Reuters reported.
If all the initiatives from regulators are implemented it would cut the average return on equity to 5.4 percent from 13.3 percent next year, hurt economic growth and raise costs for bank services, JPMorgan analysts warned, according to the news service.
“The cumulative impact of all the proposed regulation suggests that there is a real risk that we may move from a system that was under regulated to one that is over regulated and that that could cause a significant increase in lending costs and a negative impact on the economy,” Nick O’Donohue, head of research at JPMorgan, said in a research note.
This saddens me in that it appears much like a threat levied against the entire non-banking economy if we allow the “extreme” case (using the article’s words) of regulation to pass. I believe this plays into the continued vitriol that hurts American discourse and foments distrust as a theme we feel about our media, our representatives and now our banking system. I’ve even dedicated an entire post to wishing that Elizabeth Warren would also tone it down in her rhetoric.
It should additionally be noted that the simple math here is both interesting and misleading as presented. For example, I would wonder if anyone at JPMorgan has modeled what a roughly 20% reduction in year-end bonus compensation would do to erase portions of this hypothetical shortfall. Perhaps it might even exceed it within certain parts of the industry. (I’m confident in fact they have done this, they just aren’t sharing it publicly).
In financial analysis we learn that the devil is in the details. In investment banking we carefully negotiate small terms because those terms translate into big dollars for our clients. In financial modeling, the law of GIGO (“Garbage In, Garbage Out”) is an important rule we should never forget.
If lending costs go up, rational individuals may choose to view this as the simple new cost of living safely in a post-crisis world. This is my own personal view.
However, I suspect that the actual outcome would be more complex than this article represents, and competitive pressures would drive compensation down almost as much as they would allow banks to collectively exert pricing control. In economics, one likely sign that an oligopoly exists is when a group of companies have the carte blanche power to pass 100% of cost increases directly to customers. In healthy competition, cost increases would either be absorbed by the firm, shared by the firm and customers, or cause innovation to occur.
In general markets are very good at sorting out the details when we let them function safely and properly.
Co-published with the Huffington Post.
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Jason,
“I would wonder if anyone at JPMorgan has modeled what a roughly 20% reduction in year-end bonus compensation would do to erase portions of this hypothetical shortfall….(I’m confident in fact they have done this, they just aren’t sharing it publicly).”
People who can’t be bothererd to read more than one news organ shouldn’t waste their time blogging. Ever heard of Google?
Although the first link below is to my company’s site, I don’t expect you to read my rather obscure publication to avoid sounding as poorly read as you sound in the above quote. Note that the original source for the earlier JPMorgan reports (which estimated specific headcount and pay reduction numbers that would offset impacts from proposed new regs) was the FINANCIAL TIMES. Ever heard of that, Jason?
http://bit.ly/aVaHjW
http://www.ft.com/cms/s/0/c01fcfce-9cd7-11de-ab58-00144feabdc0.html
http://www.ft.com/cms/s/0/0d3d9d04-9cd8-11de-ab58-00144feabdc0.html
Hi Jon, thanks for commenting and I appreciate you bringing these articles into the conversation.
I read the piece you wrote and frankly felt it sounded like a JPMorgan press release. That’s only fair as you work for efinancialcareers.com as a journalist and writer — your firm’s livelihood is dependent on financial services remaining attractive for current employees and graduating students. I thought your comment about the likelihood of fewer jobs in the industry to be particular telling of your skewed view, as you wrote: “Think of it as the college-graduate equivalent of the minimum wage: If every starting analyst costs a minimum $150,000 (i.e., base) even in a bad year, banks will employ fewer analysts (or will shift more analyst jobs to India).”
Even analytically or jokingly comparing a $150k entry level job for a 22 year old to the millions of Americans on minimum wage is a gross misunderstanding of how the real economy works (ie, the economy that includes BOTH financial services and everyone else). I am a strong defender of the value finance brings to the table but there are limits to what I’ll write.
I also don’t get paid to support one perspective or the other, and I’m not a professional writer for hire.
As for the FT piece you reference, it’s a good datapoint and one much closer to the truth I think. However, it sadly is not indicative of the current public discourse.
Jason,
Rather than the eFinancialCareers-US link (my story you dissected), I’d meant to give this link from our UK affiliate: http://news.efinancialcareers.co.uk/newsandviews_item/newsItemId-21162
It’s their story from last September – which is based on the two FT articles and associated JPMorgan report, but has the added feature of reproducing two detailed charts from the September 2009 JPMorgan report. The charts give detailed projections for headcount and pay reductions at each of 8 major banks (as estimated by JPMorgan) that would be needed to fully offset various proposed regulatory changes.
When I posted my first comment here I hadn’t even read the whole of your post; I stopped with your paragraph that I went on to refute. Now that I’ve read the rest, I actually don’t disagree with your overall message. In fact on the same day your post appeared, I published this: http://news.efinancialcareers.com/newsandviews_item/newsItemId-23867
As far as my framing everything from the perspective of readers of eFinancialCareers (financial market professionals at all levels): Yes, it’s a different perspective from the broad mass of the public. It’s worth remembering, though, that laws of economics can’t be repealed or enacted according to popular whim any more than laws of physics can. And the extent of financial illiteracy (not to mention raw prejudice, denial and WIIFM thinking) is so great among the broad public, that I sincerely doubt whether the perspective of non-finance people is even worth taking seriously in many situations.
Barack Obama, Chris Dodd and most legislators of either party whose decisions matter, seem to understand this. Which is why they’re taking so much flack lately.
-Jon