The price of freedom

Tyler Cowen has some perceptive comments on my posts on financial regulation. As he says, the social cost of leverage is higher than the private cost, so regulation makes sense. But there are limits to this observation. The social cost of my murder is probably higher than the private cost too, but I nonetheless have all the incentive I need to avoid it. It's probably better to ensure that the private cost of over-levering is very high than to develop ex-ante regulation to prevent it.

Is it high enough now? Well, the CEO's of Merrill and Bear are out, but the CEO of Lehman is still in. Yes, they are still rich, but at that level of performance, the money is not important of itself; it is a way of keeping score. How much money would compensate Paul Krugman for being drummed out of his profession in disgrace?

Comments

Was that an interpersonal utility comparison?

Posted by TJ | June 13, 2008 1:45 PM

Are you seriously trying to tell me that people but in years and years of 80 plus hours per week on Wall Street for the prestige rather then the money?

Posted by spencer | June 13, 2008 1:46 PM

The social cost of my murder is probably higher than the private cost too, but I nonetheless have all the incentive I need to avoid it.

Huh? I think I see what you're trying to get at, but surely there's a metaphor that works better. It's not even possible to opt out of police protection in America, and places where people really are entirely responsible for their own security tend to be very nasty indeed. This is just confusing.

Posted by Trevor | June 13, 2008 1:51 PM

"How much money would compensate Paul Krugman for being drummed out of his profession in disgrace?"

I'll kick in. I'm assuming you mean writing, as he's already abandoned economics.

Posted by Tom | June 13, 2008 2:27 PM

the money is not important of itself; it is a way of keeping score.

I don't know anyone who makes hundreds of millions of $ per year, or is worth billions, so I can only speculate, but unless they are giving a large proportion of the money away, my guess would be that the money is important.

Posted by Gene | June 13, 2008 2:43 PM

You MUST be joking if you think Wall Street considers Jimmy Cayne, Stan O'Neal, et al, to have been "drummed out of (their) professions in disgrace".

Posted by carol | June 13, 2008 3:04 PM

this 'conversation' about leverage, and the regulation thereof, gets back to:

#5 on the hit parade:
Karl Marx's "10 Planks" to seize power and destroy freedom:

Abolition of Property in Land and Application of all Rents of Land to Public Purpose.

A Heavy Progressive or Graduated Income Tax.

Abolition of All Rights of Inheritance.

Confiscation of the Property of All Emigrants and Rebels.

Centralization of Credit in the Hands of the State, by Means of a National Bank with State Capital and an Exclusive Monopoly.

Centralization of the Means of Communication and Transport in the Hands of the State.

Extension of Factories and Instruments of Production Owned by the State, the Bringing Into Cultivation of Waste Lands, and the Improvement of the Soil Generally in Accordance with a Common Plan.

Equal Liability of All to Labor. Establishment of Industrial Armies, Especially for Agriculture.

Combination of Agriculture with Manufacturing Industries; Gradual Abolition of the Distinction Between Town and Country by a More Equable Distribution of the Population over the Country.

Free Education for All Children in Public Schools. Abolition of Children's Factory Labor in it's Present Form. Combination of Education with Industrial Production.

repeal Legal Tender laws, then let the Banks find out, viathe Marketplace, how much 'leverage' is the correct prescription..

Our 'libertarian' Hostess, and her friend 'Tyler' are Communists.

Posted by Mark E Hoffer | June 13, 2008 3:18 PM

Megan

In your eloquent sub-conscious, don't you feel that you have been too timid in seeking an effective type of regulation? How about a simple clause that says that all the managerial Board or Board-level decision-makers in a regulated financial institution stand to lose everything -or almost everything, letting them personally cover the last million or ten by insurance would introduce the insurers as another party looking for the dangerous risks - if the regulators have to rescue the institution? When rescue is needed should, of course, be a decision at the reglators' discretion.

Is there any doubt that potential losses on this scale would be an effective deterrent against the perpetual temptation to leverage more and take an extra turn?

Posted by David Heigham | June 13, 2008 3:29 PM

Trevor: It's not even possible to opt out of police protection in America,

Try being a dark-skinned man in the ghetto. 911 gets you hold music or voicemail. Cops don't show up. If you're lucky, some non-English-speaking lower-level administoad shows up to take a report from you 72 hours later.

If you're unlucky and they are cops in your area, they'll go into your house, see a dark skinned man (you), and then shoot you.

There is almost no police protection in America. Most people are protected by the decency of their neighbors, and those with indecent neighbors tend not to be protected at all.

Posted by secret asian man | June 13, 2008 5:16 PM

Well the war against Krugman continues. Everyone likes the opponent they can beat on don't they? By the way, I keep seeing the 10 planks of Marx... I keep asking myself the same question since we live in a country that I would say pinches freedom (and not as bad as any other)isn't it kind of silly when there is not one other country on the planet earth with a decentralized or centralized political system that does not on some level utilize Marx's planks, to apply them to ours as if we could somehow escape basic ideas? Marx and Smith are not worth reading because of their politics. They're worth reading for their ability to see to the bottom of things. Making their observations inescapable.

Posted by ben | June 13, 2008 9:45 PM

"Yes, they are still rich, but at that level of performance, the money is not important of itself; it is a way of keeping score."

This doesn't sound right. People who make great sacrifices in order to climb the greasy ladder of investment banking are probably the people who care the most about money, at any "level of performance". The comparison to Krugman is just...well, people choose different career paths for different reasons. Who becomes an i-banker because "it's such great fun and you really get a chance to help other people!" ?

The only reason bankers have prestige is because they have money. Money is also the only reason why anyone chooses to study finance and work 65hrs per week for goldman, the contrast with a trade economist couldn't be greater.

Come on Megan!

Posted by Oscar | June 14, 2008 10:08 AM

What does Paul Krugman have to do with it? Did he write something about the price of tea in China recently?

Also -- you might get more insight by thinking about incentives for avoiding accidental death in a hazardous activity than about avoiding murder. Lots of people think their loved ones don't have enough incentive to avoid falling off cliffs or motorcycles presumably because they don't think about how bad everyone else is going to feel without them.

Posted by BarryG | June 14, 2008 10:50 AM

How long would it take an investment bank executive to put away more money than he, his family, and even his great-grandchildren could ever spend? I'm guessing a few years in many cases. And yet, most of these multimillionaires keep right on putting in the 80 hour weeks as long as they are physically able.

I don't understand what motivates them, but clearly the money only counts as a way of keeping score.

Posted by markm | June 14, 2008 4:53 PM

Investment bankers generally want many things (as do most people). Yes, they want the money, but these people - the ones that make it to the very top, as opposed to the ones that quit and do something else once they have 'enough' money - crave both money and power. They want to go into high-pressure situations and feel as though they are controlling things, feel that they have control over other people. They want to be movers and shakers. They're not the type to want to retire and just sit around on their money, especially if it's forced on them.

Don't overestimate them by thinking that they're not sufficiently greedy - they want money AND power.

Posted by Ann | June 14, 2008 5:42 PM

The social cost of my murder is probably higher than the private cost too, but I nonetheless have all the incentive I need to avoid it.

Um... this "argument" does not "prove"
what you think it proves.

Hello: murder is regulated. In fact,
it's about as regulated as you can get ( i.e.,
completely illegal.)

Ditzy bint.

Posted by moron | June 14, 2008 8:46 PM

Money is also the only reason why anyone chooses to study finance and work 65hrs per week

Well, sort of, but is 65 hrs/wk considered hard work? It's pretty average in medicine, which certainly doesn't pay millions/yr except in very rare circumstances.

Posted by Devilbunny | June 14, 2008 11:48 PM

How long would it take an investment bank executive to put away more money than he, his family, and even his great-grandchildren could ever spend? I'm guessing a few years in many cases.

I could certainly spend $30-$40 million in a lifetime fairly easily and I don't think that many of them make that much in a few years. Factor in leaving enough for children and grand children and we're talking some serious cash.

Posted by JordanT | June 16, 2008 10:19 AM