“This was a hard thing for me to do, and I’ve been here for eight months…. It is heart-wrenching. I totally understand why it was impossible for him. The emotional difficulty of selling your company is very great. It is really hard.”
The self-interested, and ultimately self-destructive, herd mentality on Wall Street and in the City of London shaped policy around the world, but it didn’t prevail everywhere. One exception was Canada. Canadian regulators required their banks to hold more capital and permitted less leverage than their peers in London and New York. The result was no bailout of the Canadian financial sector and a recession (and budget deficit) that were much softer than in the United States. To this day, the Bank of Canada divides the world into “crisis economies,” which means those whose banks failed, and everyone else, like Canada.
Ottawa chose a different course because the government had a profoundly different attitude about its duties toward the system as a whole and its relationship with its bankers. As minister of finance in the 1990s, Paul Martin laid the foundations for this approach. Martin is no hoi polloi class warrior—he’s a self-made multimillionaire. But, he told me, his priority in finance was: “I knew there was going to be a banking crisis at some point and so did everyone else who has read any history. I just wanted to be damn sure that when a crisis occurred it wouldn’t occur in Canada, and that if it did occur internationally, Canada’s banks wouldn’t be badly sideswiped by the contagion.”
Don Drummond, who later became the chief economist at TD Bank, was a senior official at the finance ministry in the 1990s. “The perspective of government on the financial sector is: ‘We are the regulator—our job is to tell you what to do, not to help you grow,’” he told me. “The government has always felt its job was to say no.” Thanks to this mind-set, Martin and his team had the self-confidence to opt out of what became the international contest to create the most attractive haven for global capital. Canada raised its capital requirements as they were lowered in other parts of the world.
“I think one of the things that happened was the great competition between New York and London pushed the two into more of a light touch in terms of regulation,” Martin recalled. “I remember talking to [the regulator] and we agreed that we were not prepared to take that approach. Light-touch regulation in an industry that was so dependent on liquidity didn’t make any sense.”
One Bay Street financier summed it up more saltily: “Canadian regulators didn’t have penis envy.”
With hindsight, that decision seems brilliant. At the time, though, to many it seemed, well, limp. One measure of how strongly the tide of world opinion was running against the Canucks is that the International Monetary Fund, meant to be the stern guardian of the global economy, chided Canada for not doing enough to promote securitization in its mortgage market—one of the American financial innovations that contributed to the crisis. Even communist China accused the Canadians of being too cautious about capitalism. Jim Flaherty, Canada’s finance minister, told me that on a visit to Beijing in 2007, “they were suggesting that maybe Canadian banks were too timid.”
Canada’s bright young things were sympathetic to this critique. One newspaper columnist liked to write about “the tale of two Royals,” comparing the stodgy Royal Bank of Canada to its buccaneering, world-beating Edinburgh cousin, the Royal Bank of Scotland. (The British government had to nationalize RBS in 2008 and spent billions to cover its loses; RBC in 2012 was one of the top twenty banks in the world, with a market capitalization of $74 billion.) A Canadian finance executive who spent the 1990s in Toronto, then moved to Asia, and now lives in London sheepishly recalls thinking: “Come on, guys, get in the game! The world’s changing.”
The regulatory race to the bottom between New York and London—and the plutocracy’s eager and misguided complicity in that contest—is an important cause of the 2008 financial crisis. But it is also a crucial episode in another story: the rise of the super-elite. Much of the story of the rise of the 1 percent, and especially of the 0.1 percent, is the story of the rise of finance. And less regulation, more complexity, and more risk are important reasons why finance has become a bigger part of so many developed Western economies, particularly the United States and the United Kingdom, and why financiers’ income has overtaken that of almost everyone else.
That connection with regulation, or its absence, is also why the rise of finance is partly a story about rent- seeking. The government bailouts of banks and bankers in 2008 enraged populists on both the right and the left— the super-elite got a rescue that was denied everyone else. But the link between the state and the financial super- class is much deeper than providing a trillion-dollar safety net. Like Carlos Slim’s Telmex, and the beneficiaries of Russia’s loans-for-shares privatization, the bankers on Wall Street, in the City of London, and in Frankfurt owe much of their wealth to helpful decisions by their regulators and legislators.
In Goldin and Katz’s Harvard-based study of the impact of gender on life choices, they learned a lot about the different life choices and life outcomes for men and women. To their surprise, though, the most gaping disparity they found had nothing to do with gender. It was, instead, the gap between the bankers and everyone else.
“The highest earnings by occupation are garnered by those in finance, for which the earnings premium relative to all other occupations is an astounding… 195 percent,” they concluded. In other words, Harvard-educated bankers make nearly twice as much as their classmates who choose different jobs.
The higher incomes in finance seemed to provoke an equally dramatic shift in the career choices of Harvard grads. Just 22 percent of the men in the class of 1970 took jobs in finance and management. Twenty years later, 38 percent of the men of the class of 1990 went into finance and management—more than the numbers who chose law and medicine combined. Women shifted their choices even more sharply. Just 12 percent of the women in the class of 1970 took jobs in finance and management. Two decades later the number had nearly doubled, up to 23 percent.
That marks a profound cultural transformation. A few years ago, I interviewed a longtime friend of Paul Volcker, the legendary chairman of the Fed. Both Volcker and this friend studied economics at Harvard. I asked the friend, an academic, why neither of the pair had gone to Wall Street. “That was a third-rate choice,” he told me. “When we were at Harvard, the most prestigious job was academia; next was government service. Only the weakest students went into finance. Things have certainly changed.”
What’s most striking about these numbers, and this cultural shift that has come with it, is the extent to which they suggest that the rise of the super-elite is largely the rise of finance.
Wider studies of the 0.1 percent tell the same story. One of the most comprehensive analyses of who is in that top slice found that, in 2005, 18 percent of the plutocrats were in finance. As the Harvard data suggested, that number has grown sharply in recent decades, up from 11 percent in 1979. The only occupation that accounts for a bigger share of the income at the very top is the CEO class. Moreover, within the generally prospering community of the 0.1 percent, the incomes of bankers are growing the fastest of all.
The numbers in the UK, where the ascendancy of finance in the national economy has been even more pronounced, paint the same picture. A recent study found that 60 percent of the increased share in income of the top 10 percent went to bankers—meaning that nearly two-thirds of the enrichment of the earners at the top was driven by the City of London. As in the United States, the gains are skewed to the very tip of the pyramid: among the financiers who are part of Britain’s top 1 percent, the top 5 percent (or 0.05 percent of workers overall) take 23 percent of the total wages of that gilded slice of the population. The dominance of top dogs in finance is even stronger than that of the 0.05 percent in other jobs.
One reason the preeminence of the financiers within the global super-elite matters is that it highlights how crucial financial deregulation has been to the emergence of the plutocracy. That story has been told most convincingly in a historical study published in 2011 by economists Thomas Philippon and Ariell Reshef.
I first heard of the paper when a draft version of it was presented at the central bankers’ conference in Basel, a prestigious annual wonk fest for the world’s central bankers and the academic economists who are their intellectual groupies. Held just six months after the peak of the financial crisis, the 2009 Basel meeting was tenser and more focused on the problems of the present day than usual. On his way home from the meeting, a G7 central banker, who had worked on Wall Street before going into public service, e-mailed me a link to Figure 1 in the Philippon and Reshef paper, with a short comment: “This says it all.”
That U-shaped chart plots the evolution of wages and skills in finance over the course of the twentieth century. Here’s how the two economists describe their findings:
