Why do bankers make so much money?

There is a lot of confusion as to what is called a 'bank', so it is difficult to understand the author's analysis. I believe there are several business models in place:

1. Traditional deposit/lending.

Essentially, banks fund themselves short-term through deposits and then lend long and medium term to businesses. This duration mismatch is always risky (think of 'run on a bank'), but one can argue that banks perform essential function in the economy by analyzing credits and channeling savings to small/medium business.

2. Transaction business

It is common for a major bank to have a lock-in onto most of day-to-day transactions that people conduct. Salaries get paid by wire, then get withdrawn through many of cash machines, letters of credit are written for international trade transactions etc. For large corporate business, an international bank can arrange financing for a new oil field, then distribute this funds through its international branch network. This business is not particularly high-risk and it is not 'immoral' however you look at it. It is simply passing money around.

3. Securities and derivatives trading

A broker firm who sits between the issuer of securities (or derivatives like swaps etc.) and the buyer of securities/derivatives is not supposed to expose itself to much risk. That's why they are called a 'broker'. Godlman Sachs is a broker, and so was Lehman Brothers. They don't do deposit/lending business of any significance. Of course, in real life they do proprietary trading as well and can get hurt (like Lehman did, who carried a lot of unsold junk in its books). These institutions can also can hurt others, stuffing their clients' books with crap assets (like sub-prime mortgages etc.). But then... buyer beware, isn't it?

Actually, even through the public lumps all three above business models into 'banks' category, I would stick to orthodox definition and separate them into 'commercial banks' (doing (1/2) above) and 'investment banks' (doing (3)).

So why so many 'banks' gone bust recently and why there is so much pain around?

It is because 'commercial banks' from category (1/2) above took the easy path and stuffed their balance sheets with securities/derivatives with embedded nonlinear risk. They were supposed to do straightforward lending to businesses, yet they went into buying 'AA' rated securitized junk. The same applies to insurance companies who also have to carry assets on their balance sheets to off-set their promises to policy-holders.

And now populist press are blaming traders/brokers for greed and irresponsible behaviour of commercial banks managers.

As to the questions 'why do they make money', we need first to define which 'banks' are we talking about. Investment banks? Commercial banks? There could be another post altogether.

Some bankers make a lot of money for the same reason some football players and CEO's make a lot of money. If you have a lot of money to invest you don't don't need 50 people looking at your money. But, you want "the best" because finance is something of a zero sum game. So you bid up.

Another option is to use leverage to take huge risks with other peoples money. When a billionaire bankrolls you to bet in Las Vegas and you get to keep 20% of the winnings plus a transaction fee, and they keep all the downside you could make a tun of money. The secret is being good enough at math where it's no obvious that this is what you are doing.

The other way finance people make a lot of money is the high end watch maker concept where it's profitable to sell to rich people if you know how. The might not get better returns than a well managed 401K but there is someone on the other end of the phone to yell at when the stock goes down. Mix in some confirmation bias and it's hard for people to notice when they are getting fleeced.

PS: Another limiting factor is the number of people with the right pedigree. There is only so many people that graduate the top of their class from MIT, Harvard etc. Or who have a long history of flipping a large number of heads.

I think bankers are an early example of a knowledge-worker occupation where the amount of economic value produced by one's labor scales in relation to deployed capital, rather than in relation to hours worked, and therefore they command stupidly high salaries because (when performing properly) they should.

Bad news for anyone who enjoys income equality: I think they're not the last occupation that will see this decoupling of returns from hours worked (which, since everyone has a roughly similar cap at some fraction of 24 in the day, is the ultimate thing keeping wages in the relatively narrow band people associate with "normal" folks).

Many people take it as an article of faith that there is a 10x difference in productivity between the best programmers and (take your pick) either average programmers or the worst programmer in their organization. Almost no programmers, however, are compensated at 10x the compensation of the average or lowest performing member of their organization.

This is a sign of economic inefficiency. The market abhors economic inefficiency. And the market generally gets what it wants.

I mentally consider myself in the middle of two engineers at the day job. One of them is literally incapable of programming Java, and earns to the yen what I do because our seniorities are equivalent. The other is the 10x engineer -- 10x in relation to me, easily. He is older but his premium on my wage is, hmm, 15%? 25%? Something like that.

One thing I have learned recently is that my skillset generates more value than my salary quite literally while I am sleeping. That number is going to keep increasing at a rate faster than my salary, and at some point the essential conflict is going to deprive my company of my services. Honestly, that won't be the world's biggest loss to them. What should worry them is when math becomes inescapable to the 10x engineer, too.

Because banks make a lot of money?

Banks probably pay higher because the kind of people attracted to wealth are the kind of people motivated by wealth and in turn these people become managers and hire other people purely with wealth.

Client relationships primarily. Bankers make money because clients don't have a relationship with an bank, they have it with an individual. Hence the individual is worth a lot of money, hire the individual and get their clients.

Some individuals are paid a lot for individual specialist skills (analysis, prop trading, etc.) - but these tend to be in the minority.

I tend to phrase the question a little more humorously:

Why do bankers have all the money?

In my experience, there is a strong positive correlation between people in an organization that are empowered to write checks on the company account, and their wealth. Cause and effect I cannot attest to.

Because they can "legally" commit fraud by lending 9x more (in the US) than they have and the central bank will print money (devaluing everyone elses money) in order to cover their losses if needed.

Because they get to gamble with Other People's Money.

Because they are risk-takers. Low risk - low reward.