Because it’s winter or something, I’ve been spending (too much of) my time these days going back to first principles. Like: why are there sidewalks? Why do we like bread so much? Why did some buildings in New York get torn down and why not others? What is the deal with cats getting domesticated? So this pullback on assumptions, by James Kwak, about how humans get paid, in a discussion about Goldman Sachs bonuses, is striking: “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.)”
I’m stuck on that. Like, stuck for the day on that. Yes, no, maybe so?
If you are interested, he goes on, from there, regarding the specific instance of Goldman:
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… 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 is 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.