Is the Financial Sector Too Big?

Many think so. Former IMF chief economist Simon Johnson wrote in the Atlantic recently that "from 1973 to 1985, the financial sector never earned more than 16 percent of domestic corporate profits...this decade, it reached 41 percent." He calls it a "quiet coup." Felix Salmon at Reuters complains that "financial services companies are meant to be intermediaries, middlemen. And any time that the middleman is taking 41 percent of the total profits in what's meant to be a highly competitive industry, there's something very wrong." And the New York Times this weekend wrote almost gleefully of an impending shift in job demand among students at the nation's top universities. "Early indications suggest new career directions that are tethered less to the dream of an immediate six-figure paycheck on Wall Street than to the demands of a new public agenda to solve the nation's problems," the paper declared.

Color me skeptical. For all the TARPs and PPIPs, Congress and the Administration have so far done nothing in the way of long-term, structural reform of the financial sector. There are some proposals on the table, but unless the new regulation is dramatic, I don't think the lure of billions will soon give way to the lure of science labs and Teach For America. There will be a hiccup, to be sure, since there are fewer jobs on the Street this year, but what's to prevent the rubber band from snapping back to its original shape after the economy stabilizes?

I don't think pay caps are the answer. They're too easily thwarted, and there's a first-mover disadvantage -- if the U.S. limits executive pay, European banks (or Chinese ones?) will quickly snag all the top talent.

Dean Baker suggests a financial transactions tax.

The result, he hopes, will be "a financial sector small enough to drown in a bathtub."