How Big & How Bad Is It?

Monday, September 22, 2008

Now that Morgan Stanley and Goldman Sachs will be converting into traditional
bank holding companies, the landscape has changed for keeps:

  • "With the move, Wall Street as it has long been known — a coterie of independent
    brokerage firms that buy and sell securities, advise clients and are less
    regulated than old-fashioned banks — will cease to exist. Wall Street’s
    two most prestigious institutions will come under the close supervision of
    national bank regulators, subjecting them to new capital requirements, additional
    oversight, and far less profitability than they have historically enjoyed."
    (WSJ)
  • "A move that fundamentally reshapes an era of high finance that defined
    the modern Gilded Age." (NYT)
  • "The investment banking era ends." (FT

GSMS

Here are a few more data points to put this financial meltdown into some kind of perspective.

The Size of the Problem

Of the $3.13-trillion 2009 federal budget, here are the key components (courtesy The New York Times):

  • National security: $738 billion
  • Social Security: $651 billion
  • Medicare/medicaid: $632 billion
  • Everything else: $1.112 trillion
  • Treasury rescue plan (estim.): $700 billion

Budget

What alternatives were there to this dramatic rescue?

According to Henry Paulson, were it not undertaken, "Heaven help us all." Alan Blinder, an economics professor at Princeton and former vice chairman of the board of governors of the Federal Reserve Board, said “It goes a long way; it ameliorates it very substantially,” but he immediately admits there’s no certainty about what will work: “We’re deep into Alice in Wonderland’s rabbit hole.”

The need for the rescue, to my mind, is utterly unassailable. Why? Simply because the economy runs on credit, financing, and the ability to turn income streams into assets and assets into income streams. Without that, the entire economy seizes up like an engine deprived of oil.

“Wall Street isn’t this island to itself,” said Jared Bernstein, senior economist at the labor-oriented Economic Policy Institute. “Even people with good credit histories are having a very hard time getting loans at terms that make sense. If that gets worse, we’re going to be stuck in the doldrums for a very long time, because that directly blocks healthy economic activity.”

That’s why the populist-sounding rhetoric coming from Washington about Wall Street "fat cat bailouts," "corruption," "golden parachutes," "pigs at the trough," etc., is, as the noted conservative commentator and New York Times op-ed columnist David Brooks wrote last week, "moronic."

Impact on the Financial Services Industry

As recently as 30 years ago, the financial services industry constituted well under 5% of the S&P 500′s total market capitalization. By 2003 it had risen to over 20% and was the single largest industry segment. As The New York Times puts it:

As late as 2004, financial services firms earned 28.3 percent of corporate America’s total profits, according to Moody’s Economy.com. That was somewhat lower than it had been over the previous few years, but still almost double the financial sector’s average share of profits throughout the 1970s and ’80s. By 2007, the share had fallen only marginally, to 27.4 percent.

Meanwhile, the share of wages and salaries earned by employees of financial services firms continued to climb and reached a peak last year. Of every dollar paid to the American work force in 2008, almost 10 cents went to people working at investment banks and other finance companies, up from about 6 cents or 7 cents throughout the 1970s and ’80s.

Here’s another way of looking at it:

Boom

If you want to look at the fortunes of financial services companies since the last market peak (October 9, 2007, for those of you keeping score at home), here are some representative numbers:

  • IndyMac: -100%
  • Lehman Brothers: -100%
  • Fannie Mae, Freddie Mac: -99%
  • AIG: -95%
  • Bear Stearns: -93%
  • Washington Mutual: -88%
  • Countrywide: -78%
  • Wachovia: -64%
  • Morgan Stanley: -61%
  • Merrill Lynch: -60%
  • Citigroup: -57%
  • Keycorp: -56%
  • Goldman Sachs: -46%
  • Bank of America: -29%
  • Capital One: -22%
  • JP Morgan Chase: -1%
  • Northern Trust: +6%
  • Wells Fargo: +7%
  • PNC: +13%

New York, New York

The City is far more heavily dependent on financial services, of course, than the economy as a whole:

  • Financial sector workers collected 35.9% of all income earned in the city, even though they accounted for only one job in eight.
  • This is roughly double the level of 30 years ago.
  • In the past 10 years, the number of jobs in New York City where people produce goods has fallen from 303,000 to 227,000 (down 25%).
  • During the same time, people employed in "leisure and hospitality" (including waiters, bartenders, hotel clerks, actors, and even Yankee Stadium vendors) has grown from 232,000 to 307,000: But of course those pay relatively poorly.

Graphically, employment in financial services in New York City looks like this:

NYC

And of course, as only the WSJ can do, it featured a tongue-in-cheek article last week featuring how wealthy New Yorkers were economizing. With evidently thoughtless and rather amazing unintended irony, one high-end caterer described a client’s change in plans:

On the party circuit, many New Yorkers aren’t canceling events, but some are seeking to make them less ostentatious, says Bronson van Wyck, who runs New York event firm Van Wyck & Van Wyck LLC with his mother and sister. Earlier this week, the children of a Wall Street executive who are planning his 65th birthday party contacted the firm to change the menu. Out went the caviar and truffles and in came Wagyu beef instead. The new menu won’t cost any less, Mr. van Wyck says, but "it’s less overt."

Wagyu beef rather than truffles and caviar?

It will, of course, be far far worse than that.

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