Why is banking a high paying industry?

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When someone mentions banking, the first thing that comes to mind is money. Banks deal with money and bankers have a lot of it. It has always been the case but in recent years, especially post 2008, the spotlight has been on this matter, with bankers painted as greedy villains. I realise that I’m generalizing here, but it seems reasonable that we question the rationale and fairness of this situation, where professions that add value to society such as policemen and teachers earn a fraction of what someone in banking earns.

Here are some statistics to ponder over: in the UK, the median average annual salary was GBP27,531[1], and within this, the City of London (where the bankers are) was the highest earning region, with an average salary of GBP48,023. In the US, the median salary for an analyst (i.e. entry level) working for a bulge bracket investment bank is around $80K[2], while a registered nurse would be paid closer to $50K[3]. The difference increases with experience, with a Managing Director in a bank earning over $600K. I didn’t bother looking into a senior nurse’s pay, but I’m pretty sure it would be miles away.

I can think of a few reasons for the high level of compensation. The reality is that pay is not based on a role’s value add from a social welfare perspective, but rather supply and demand. There is a high hurdle rate for jobs in financial services, especially in the top banks and fund managers, with a first class degree from one of the top universities just a basic requirement. On top of that, candidates have to go through a vigorous interview process, with Goldman Sachs requiring a full day session with over 10 interviews and most banks making candidates go through assessment days whereby they’re asked to write emails/memos, present a case study, sit for exams, etc. I’ve been through (and failed) a few myself, so I know how torturous and selective it is.

As a result, we end up with a self-fulfilling prophecy – due to the attractive compensation and high hurdle rates, banking is viewed as an ‘elite’ industry. Therefore, there are lots of applicants resulting in supply outstripping demand. This is still true today despite talks of cutting bonuses, reduced perks and generally a less glamorous picture being painted. With the multiple redundancies we have seen over the years, it has become even more competitive as people are hanging on to their jobs and it’s an employer’s market.

Another reason is that bankers deal with money, lots of it. So even if they get a small cut, it can be a big sum. For example, a company hires a couple of banks to help them get listed on the stock exchange. Assuming the company is valued at $10 billion and the banks are paid a 5% fee, this is equivalent to $500 million. In return, the banks underwrite the issue which means that if there is a shortfall in investor demand, the banks risk having to use their own balance sheet for the deal. As the lead banker on the deal, even if you only receive 1% of the fee income, that’s $5 million!

The final reason is that people in banking are expected to work hard, into the wee hours and over weekends. They are on call almost all the time, even when they’re on vacation. It is also a pretty stressful environment, with tight deadlines, high expectations and potentially, your boss shouting and swearing at you because he/she is equally stressed.

These are all justifications, but I’m not saying that it is right and fair. Based on what happened in recent years, the world has come to realise that there is an imbalance, with banking being at the center of the bubble. Banking has grown to be too big and the compensation system is skewed such that bankers are paid to take risks. The Wall Street and City banks took too much risk and we ended up with the global economy being in doldrums for years and governments using taxpayers’ money to bail out ‘too big to fail’ banks.

Possibly an even more unfortunate side effect is that smart students aim for jobs in banking rather than more constructive occupations such as doctors, professors, innovators, scientists, etc. In a way, it could be good that we had the 2008 crash and hopefully, there will be an adjustment to a new equilibrium where bankers are not paid astronomical sums and it’s not the industry that graduates aim to work in. However, given how short term our memories are, I wouldn’t put my money on it.

[1] Source: The Metro

[2] Source: Emolument

[3] Source: Payscale

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