The core skills of investment banking marrying up the capital needs of financially stretched issuers and the investment objectives of those with cash still to put to work even after wrenching portfolio losses have never been more valuable.
So it should not come as a shock or provoke resentment that Goldman Sachs, still the worlds pre-eminent investment bank, pulled in record quarterly equity underwriting revenues between April and June. With banks still reluctant to lend, corporations and financial institutions need to repair their over-leveraged balance sheets and raise funds. Those capital markets intermediaries that help this to happen are doing a better job for the global economy than the still-reeling banks.
So we should be pleased by Goldmans profits. They are evidence that the capital markets are doing their job at a vital moment for the economy.
But Goldmans senior management and employees and all who work in the industry would do well to reflect right now, while earnings pour in, on how close even the strongest firms came to disaster.
Goldman Sachs only survived to make these profits because the US authorities bent their own rules to pretend it was a bank, which it clearly isnt, allowed it wider access to credit at the Fed discount window and injected billions of dollars-worth of capital in the form of preferred stock.
Goldman has since paid this Tarp capital back, but it should remember that it was only able to continue funding itself through the darkest hours thanks to Federal Deposit Insurance Corporation guarantees on its short-term borrowing and ultimately on creditor confidence in implicit taxpayer support.
Thats why it would be foolish for any in the industry to dismiss those expressing outrage at the resumption of enormous bonus payments as mere populist political posturers.
And the very worst service Goldman could do for the rest of the industry would be to inspire others once again to try to match its returns.
High pay is not, in itself, a bad thing. But it should be clear to a child that excessive pay can incentivize bad behaviour. Goldman can at least argue that its large bonuses look genuinely variable. They are rising because profits and revenues have soared. Elsewhere across the industry there are many worrying signs of the return of that most odious concept: the two-year and even three-year guaranteed bonus.This was the talk of the Euromoney Awards for Excellence dinner in London last month. The chief executive of one of the worlds leading banks recounted to Euromoney his outrage over a recent meeting with a prospective recruit who brought with him an offer letter from another bank for a two-year guaranteed bonus of $8 million in the hope he could entice a higher bid. He couldnt. The chief executives outrage sprang from the fact that this offer was from a bank that has not yet repaid its Tarp funding and is indeed only being kept alive as a going concern by taxpayer support.
The animal spirits of the investment banking industry have been revived by the scent of record earnings pouring in to the leaders. Memories of the crisis are fading extraordinarily fast. The signs are that lessons will not be learnt, that the industrys competitive dynamics prevent it from taking a sensible approach to pay.
Plenty of well-meaning and sensible reports have been published on the subject. Last month, David Walker in his report on the governance of banks and other financial institutions commissioned by UK prime minister Gordon Brown, recommended that bonus payments be split into long-term and short-term components, with no more than 50% being paid out over the short term, which is over three years, including a limit of only one-third of the short-term bonus to be paid in the first year.
This is sensible enough, but the report does not address guaranteed bonuses. The poison in these works in subtle ways. While it is fine for a firm to pay out large bonuses for high earnings actually secured without entailing subsequent capital loss and deferral over several years enables this guarantees change all that. If a firm has guaranteed a big payout, that subtly changes the firms attitude to risk control. The deal is a short-term liability, like commercial paper coming due, that the firm must generate cash to redeem. Having already paid forward for the earnings, the temptation will be to stretch a little to secure them. The danger is obvious.
If firms cant prevent themselves from offering such deals, then others must do it for them: certainly regulators, conceivably accountants and shareholders too, would serve their own interests by expressing disapproval forcefully to boards. And even firms that pay genuinely variable bonuses must be very careful about paying out excessive sums in the good times. Goldman is a fine, well-managed firm. But if the Obama administration seized this moment to impose a windfall tax Goldman would find few supporters willing to fight its corner.
Geoghegan appeals to banks and governments