Fi­nance Salaries, Re­turns-to-tal­ent and In­equal­ity

Rotman Management Magazine - - FACULTY FOCUS - In­ter­view by Karen Chris­tensen

Many peo­ple be­lieve that the fi­nance sec­tor is con­tribut­ing dis­pro­por­tion­ately to in­come in­equal­ity in our so­ci­ety. Do you agree?

I do. Ever since the 1980s, com­pen­sa­tion in fi­nance has been higher and more skewed than in other sec­tors. It has been shown that the ‘fi­nance wage pre­mium’ — the de­gree to which fi­nance salaries ex­ceed those in other in­dus­tries — is, on av­er­age, 50 per cent. That is why the sec­tor has been crit­i­cized as one of the sources of grow­ing in­come in­equal­ity.

My col­leagues and I felt that this pub­lic de­bate called for an im­proved un­der­stand­ing of the driv­ers of bankers’ pay. Our in­tu­ition told us that one of the key driv­ers is the com­pe­ti­tion for tal­ent. For our re­search, we de­fined tal­ent as, ‘the ap­ti­tude to reach an ob­jec­tive in a com­pet­i­tive en­vi­ron­ment’. In this def­i­ni­tion, tal­ent en­com­passes not only cog­ni­tive skills, but also per­son­al­ity traits such as mo­ti­va­tion, self-dis­ci­pline, low cost of ef­fort, and abil­ity to per­form in a com­pet­i­tive en­vi­ron­ment. We set out to an­swer two ques­tions: Are wage re­turns to tal­ent rel­a­tively high in fi­nance com­pared to the rest of the econ­omy?; and, Do tal­ent ef­fects drive the cross-sec­tion of wages ob­served in fi­nance?

Our main find­ing was that the fi­nance wage pre­mium has in­deed been dis­pro­por­tion­ately al­lo­cated to the most tal­ented in­di­vid­u­als in this sec­tor: re­turns to tal­ent were three times higher in fi­nance than in the rest of the econ­omy. We also dis­cov­ered that, while wages have in­creased a lot in the fi­nance sec­tor over­all, they have in­creased even more for the top per­centile in the sec­tor. The most tal­ented in­di­vid­u­als in fi­nance have thus re­ceived most of the avail­able wage in­creases in re­cent decades. We be­lieve th­ese sig­nif­i­cant re­turns are also as­so­ci­ated with an in­creas­ing share of tal­ented in­di­vid­u­als choos­ing to go into fi­nance oc­cu­pa­tions.

Our re­sults con­trib­ute to the over­all un­der­stand­ing of the well-doc­u­mented rise in in­come equal­ity. While th­ese out­comes may be both mer­i­to­cratic and eco­nom­i­cally ef­fi­cient in the short run — they might not be so­cially or po­lit­i­cally sus­tain­able in the long run.

Within fi­nance, you found that re­turns-to-tal­ent for ‘front-of­fice’ jobs are even higher when com­pared to back of­fice or ‘sup­port’ de­part­ments. Please dis­cuss this find­ing.

We found that in­deed, re­turns to tal­ent are higher for frontof­fice jobs like traders or quants, rel­a­tive to ‘back-of­fice’

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