The Bad Rap of the Finance Profession

As a business student who is concentrating in finance and someone who will be working in the financial field next year, I take offense to those who call out the financial industry as inefficient uses of talent in the economy. These opponents of the financial industry have taken the opportunity presented by the most recent financial crisis to underscore the problems that investment bankers, hedge fund managers, and other financial intermediaries pose to the "real" economy. However, these opponents like to focus the story on the fringes of financial intermediaries, outlining all of the crooked practices and scandals while generally ignoring the benefits that these financial companies can provide.

A recent example of this fringe story analysis was offered by a Harvard Professor in a recent New York Times article. This professor says that he is disappointed when bright students opt into the financial industry, away from more optimal professions such as doctors, professors, or public servants. The author explains that those in the financial industry are typically "rent seekers" where they take wealth from others and transfer it to themselves. He goes on to explain some of this negative "rent seeking" behavior:

Banks sometimes make money by using hidden fees rather than adding true value. Debt collection agencies may use unscrupulous practices. Lenders to poor people bying used cars can make profits with business models that encourage high rates of default...These kinds of practices may be both lucrative—and socially pernicious.

Using these margin examples to color the financial industry as a crooked business ignores the potentially socially beneficial services that the financial industry can provide. Using the same kind of analysis, you could argue that professors are corrupt because of the illegal actions of one professor or all researchers siphon funds. This type of analysis should not hold for the entire industry as it ignores all of the benefits that the industry gives: namely the role of financial intermediary, giving individuals greater access to debt, financing, and investment options.

Using fringe stories of corruption may not be able to take down the entire financial industry, but breaking down the financial industry into sub-categories show a few "service providers" that might be a net negative to society. One such sub-category is potentially the high frequency trading firms that were touched on in the NYT article and very closely examined in Michael Lewis's book Flash Boys. In the book, former HFT employee Brad Katsuyama discusses the problem of companies investing hundreds of millions of dollars to shave off hundredths of seconds for times of trades and the problem of front-running trades, again something that can be defined as "rent seeking" activities.

But once again, this problem is being focused on at the margin. While it is not clear that reducing trade times by hundredths of seconds is a net social cost (it likely is), Katsuyama ignores the long history of companies investing in faster trading technology that proceeded this current point. Increased speed of electronic trading and compressing spreads on stock trades have both made investing more efficient, allowing capital to move more freely. By only focusing on hundredths of seconds, you ignore the hours that have already been shaved off of placing trades.