A leaner future for Wall Street bankers

Without wishing to harp on about John Thain’s last-straw decision to accelerate bonus payments at Merrill Lynch, seemingly to get them in under the wire before the new bosses at Bank of America could cavil, it symbolises a huge clash of consciousness.

On one side are politicians, government regulators, commercial bankers such as those at Bank of America and the general public, most of whom are now outraged at the lavish rewards on Wall Street over the past decade. On the other side stand the investment bankers themselves, who would naturally prefer the system to continue much as before.

Any suggestion that Wall Street should curb bonuses was met, before the financial crisis, with two arguments from those at investment banks who were vested in the system:

First, they said there was little alternative but to pay top performers enormous rewards because they were like star football players who could simply leave and get even greater rewards elsewhere if the company did not pay up.

Second, they said that the system of paying out half of all revenues annually in bonuses was deeply entrenched in the partnership culture of Wall Street and was accepted by shareholders, who had done well by investing in these banks.

I think the Merrill Lynch incident is an indication that investment bank chief executives, although they have largely sacrificed their own bonuses for 2008, essentially believe that nothing much will change. They think they will have no alternative but to keep paying up.

I happen to think they are wrong. One reason for this is that I do not think governments are going to stand for it. There is growing indignation at Wall Street firms simultaneously taking taxpayers’ money and continuing to pay billions to their employees.

More powerfully, in the long term, I think the market has changed. Floyd Norris points this morning to an interesting study of high pay on Wall Street, and how it hit peaks in the 1920s and recently. It declined sharply in the 1930s because of falling demand for elite financial skills and, as Floyd points out, there were periods in the post-war years when bankers were not well rewarded at all.

During these periods, of course, the firms in question were partnerships that simply could not pay out a lot to their partners because there was not much money to do it with. But the same effect is likely to kick in at public companies too, exacerbated by the greater public scrutiny of the Wall Street system.

Not only is the bonus pool likely to shrink as a proportion of revenues, but those revenues are also going to be under pressure. That dual effect will have a painful impact on bonuses. Mr Thain’s downfall is one small indication of this.