In denial

Over in the parallel universe that is the financial sector, people are not happy about the "clawbacks":

http://www.ft.com/cms/s/0/4ff2f77e-1584-11de-b9a9-0000779fd2ac.html

There are some terrific quotes in the piece. Here are a few:

“Finance is one of America’s great industries, and they’re destroying it,”said one banker at a firm that has accepted public money.

“The work we have all done to try to stabilise the financial system and to get this economy moving again would be significantly set back if we lose our talented people because Congress imposes a special tax on financial services employees,” [Vikram Pandit, Citigroup CEO] wrote.

“There are three big industries where the US has global leadership: financial services, media and technology. Introducing this 90 per cent tax is like taking one of those industries out the back and shooting it,”

Leaving aside people who were knowingly fraudulent, or borderline fraudulent, my feeling is that the majority of people in the sector did not have bad intentions, but were simply greedily responding to wage signals. If you could make several times as much working the City or on the Street as you might in an alternative career, why not go for it? If you were the thinking type it might have occurred to you that something was a bit odd about the sheer size of your pay packet relative to equally or better qualified friends who were working long hours doing seemingly useful things like medicine, teaching or technology. But you figured, hey this is what the market's saying, it must be right. Plus there would have been persuasive voices (not least in the FT, WSJ and Economist) explaining that your sector was indeed magically creating wealth on a scale large enough to justify your pay packet.

But now that reality has made a belated appearance, where do these people go psychologically? Do they accept that much of the justification for their earnings was false? That perhaps some of the people they admired for their drive and ambition were in fact frauds? This is a lot to take on board, so these people are now in denial.

If we allow things to drift, they will stay in denial, and there will be none of the broad changes in sectoral culture and norms which are needed. And in a few years we will have a replay of the crisis, but on an even bigger scale. Yes, you can change regulation - and we should - but one-off legal and regulatory changes alone are never enough, you have to somehow change the culture and norms as well. Else, once public and political attention is elsewhere, regulatory capture will rear it's ugly head again and the seeds of a new crisis will be sown.

This is why it's so important to get the policy response right, not just in terms of the immediate economic impact of the bailout, but in terms of psychology, in terms of the message it sends to actors in the financial sector.