Everyone, it seems, hates Wall Street. Presidential candidates compete to see who can most excoriate bankers. The 2016 Edelman Trust barometer ranks financial services and banks next to last on the list of trustworthy industries, Comedian John Oliver's screed against his 401(k) plan racked up 4 million views in two weeks.
But why the antipathy? Finance is necessary if we are to grow our economy, provide jobs, reduce poverty, build a climate-friendly infrastructure, and solve a host of major societal problems. So why is there such a strong sentiment that those of us in finance reap an unfair share of the financial rewards without a care for the rest of the real world?
Simply put, the financial system does not deliver the value it should to real economy and to ordinary, non-financial sector families. Yes, finance performs essential functions that business and citizens need -- from safekeeping our money to facilitating payments, but it does so inefficiently and the cost is expensive.
At its core, finance is a service industry, One valuable service is "intermediation," a fancy word for "taking money from point A where it is, to point B where it is needed". This can mean pooling savings to fund your mortgage, financing a factory, or creating your retirement savings.
It costs about two percent to move money from point A to point B, which sounds reasonable, but consider this: That figure that has not materially changed since the age of the railroads. In those 130 years, we have invented computers, cars, and telephones; landed people on the moon, eradicated diseases; increased life expectancy. In almost every human endeavor, we have become more productive. Except in finance.
This is not to say there have been no efficiencies at all. We have electronic transactions, better risk-shifting ability, credit cards, automatic teller machines, affordable mortgages, more efficient trading markets, and a host of other improvements. But, the benefits of these Wall Street advances have not reached main street. One reason is that the number of financial intermediaries has grown exponentially. One study found that it takes 16 financial agents to escort your money from point A to point B. Another study documented more than 100 fees that could affect your retirement savings. Each intermediary needs to be paid, so that while each of those 100+ transactions for which fees are being paid may be more efficient, the aggregate is not.
Let me be clear: The people who work in finance are generally well-motivated and hard working. And despite the demonization it suffers, finance is not evil. Indeed, it's societally positive. But it has become inwardly-focused, serving the needs of the next intermediary in line, rather than those at either point A or point B, the places where the financial sector intersects with the non-financial economy. A service industry that forgets who its customer is should not be surprised when those customers think the service is sub-par.
We can do better.
Here are some pragmatic ideas to diffuse the anger, rebuild trust and re-tool a more efficient financial system, these ideas must become more widespread:
Reduce the number of agents: Large asset owners, such as a number of Canadian pension plans, are increasingly making direct investments rather than going through intermediaries.
Make the fees we pay explicit: Markets move on information, but the fees we pay today are often hidden or confusing. Making fees transparent encourages investors and borrowers to select lower cost alternatives. Denmark and Holland passed legislation forcing disclosure of many more costs than are disclosed in the U.S. today. The US Department of Labor estimates that similar transparency in the US would save some $12.2 billion, and that is just from savers not having to search for the data. That $12.2 billion in savings doesn't even count what will be saved from workers making more informed decisions.
Stop oversimplifying the world and pretending we know the future: The real world is complicated. Modeling it is, at best, difficult. Using those models to predict the future with certainty is impossible; value at risk analyses suggested that the market moves in 2008 were so rare that they should have occurred only once every 73 to 603 trillion billion years. They happened twice in a month. Combine state of the art models with judgement: Goldman Sachs avoided the worst of the crash by noting that the real world was not performing the way the models predicted.
In sum, we can "fix" finance. We can cut that two percent of incremental cost of capital. That will increase wealth for everyone, fight poverty, grow employment and combat income inequality. Yes, finance is socially positive. But it can be more effective in serving average people and real economy.
The ideas in this essay are developed in more detail in Jon's recent book, "What They Do With Your Money: How the Financial System Fails Us and How to Fix It," which he wrote with Stephen Davis and David Pitt-Watson.