“My job is my bonus”. That’s how one employee at an (admittedly exceptionally hard-hit) global financial institution answered my question about this year’s bonuses at his firm. Someone else, at another (less battered) firm, mentioned in a matter-of-fact way that bonuses would be down 40-60% this year – and he expected the same next year. “Mind you”, he noted, “people’s base salaries around here are pretty good – but no-one relates to that. The base salary is taken for granted and the focus is on the size of the annual bonus.”
Tough times indeed, in the world’s financial centres. But the layoffs (in the worst case) and the bonus cuts (in the best) are not the reason for the all-pervading gloom, relieved only by ever-blacker humour, that has enveloped London or New York. After all, the brutally cyclical nature of the financial services sector as a whole is hardly news to anyone. Rather, the explanation for the exceptional, apparently unprecedented, degree of pessimism in almost all areas and at almost every level of seniority within the financial sector, stems from the realization that this is not another cyclical slump, however nasty. This time, it’s not coming back.
There is within the financial sector a general reluctant but gradual coming to terms with the horrible reality that the sector’s epic expansion over a period of 25-30 years, starting sometime in the 1970’s, has come to an end. That statement encapsulates so many consequences that it is difficult even for independent observers to work them all out – let alone for the victims of these consequences to accept, absorb and act upon them.
One of the most obvious and most important of these consequences relates to the area that used to be called ‘pay’, but is now titled ‘remuneration packages’. Now that it is recognized and admitted that financial firms – including even boring banks, let alone the overtly aggressive hedge funds and private equity outfits – were generating excess profits almost entirely on the basis of massive and ever-increasing leverage (i.e. using borrowed money), and now that it is clear that leverage will shrink dramatically, it follows immediately that profits – when they eventually return – will be modest. By extension, therefore, remuneration levels will collapse to a fraction of their former bloated states. Management will no longer be able to appropriate to itself the bulk of the firm’s excess profits by granting itself blocs of shares and options, nor will it be allowed to award itself huge bonuses for ‘achievements’ chalked up by making risky bets with borrowed money. Managers and other employees of financial firms will revert to getting salaries commensurate with their inherent capabilities, as is the norm in other sectors. No doubt there will be ‘stars’ who will command special terms, but they will perforce be few and far between.
Meanwhile, the financial sector will shrink dramatically, in terms of the range of activities it engages in, the number of institutions in each area and the overall number of people it employs. This process is already underway, as young people and other recent entrants are fired and come to realize that there is no point in seeking to re-enter the sector, now or whenever recovery rolls round, because their expectations (in practice, dreams) have been permanently dashed. At the same time, older people – especially those who have built up wealth over their career and have managed to retain a reasonable proportion of it through the collapse – are asking themselves what justification there could be to stay in very stressful jobs, when the best they can now hope for is to be paid less for more.
From the core of the financial sector, the consequences of the implosion will spread through the wider economy, whilst in a behavioral sense the results of the growing revulsion with the economic model of debt-addicted consumption will result in different social mores and, probably, significant changes in lifestyles. Eventually, of course, new sources of growth, employment and wealth-creation will emerge, but the process entails two major challenges. One is navigating the upheavals and pain entailed in the transition, as the old drivers of economic growth and social change shrink. The other is even greater – developing new foci of economic activity that can replace the ones lost. There is no guarantee that the countries losing their prominence in the sectors now doomed to decline will be the ones which succeed in finding replacements and achieving comparable prominence in them. Indeed, the historical record suggests that this is unlikely – so that, whilst an economy as large and diversified as that of the US can hope to rise to that challenge, an economy such as the UK – whose twin pillars of recent economic growth, namely financial services and real-estate, have both crumbled – is facing a potentially bleak future.