How many people in the financial services industry understand how the financial system works?

We’ve all experienced it, we are dealing with someone who has all sorts of masters degrees, PhD’s, and doesn’t know the Federal Reserve is a private corporation, and even doesn’t know the product their company is selling.

In the spirit of professionalism, we must keep these quotes anonymous, but certainly if you have survived long enough in Finance or read the Financial news regularly, you will not need any references because you’ve probably heard it before.

 “I don’t know Math, I know Finance.  If I wanted to study Math, I would have been a Scientist”

excuse me?

 “I’m having some computer issues, I have to wait for my I.T. guy to fix it.” -Trader

 “I just invest in companies that I understand.  I drink Coke.”

“By proposing the development of algorithmic trading systems based on genetic algorithms, you have insulted the Lord Jesus Christ, and I must leave this meeting”

“You may understand the markets, but you know nothing, until you have traded on the floor of the NYSE” (this was in the late 90’s)

“I see these documents you have shown me about the Fed being private, but if I accept these facts about the Fed, I would rather die.  As far as I’m concerned the Fed is part of the government.  Why do you think it’s called ‘Federal’ Reserve?”

“Foreign futures is Forex” -Regulator (who have since changed their wording)

Comparatively, in many other industries, even low level workers have an intimate knowledge of the smallest detail.  The car industry is a great example (although there are many others).  Many car  mechanics can completely disassemble and reassemble most makes and models even from different eras; where parts are different or unavailable, they become innovative.  And then there is the final test; does the car start?

Wall Street seems to be at the other end of this comparative spectrum.  How many brokers could disassemble and reassemble the entire business with all its working parts?  Many top level executives even fail to do this.

But we can say that Finance is one of few industries with highly trained and educated workers.  Because of regulatory requirements for education, company policies that extend this education further, nearly all workers are extremely educated.  They are trained what to say, what not to say, down to the level that scripts are memorized when speaking by phone, and any deviation from script wording can bring harsh consequences.

Then why does there seem to be so much incompetence on Wall Street?

First, we must realize that Wall Street typically has a top down pyramid structure as an information policy.  A few people at the top know everything, and farther down the management chain you go to the bottom dwellers, they know less and less.  This is somewhat understandable due to the fact that Finance is largely an information business, and proliferating any trade secrets or divulging info about a trading strategy or investment strategy could impact the strategy.

But there are consequences for such a structure, most obvious in financial frauds, where only a few top executives are aware that the big account in the Caymans is actually a fictitious account, or that the 100m of reg cap at US Bank doesn’t exist, and the bank account statement being sent to regulators is a bad Photoshop job.

Another consequence is that if the leaders who have all the info are incompetent or make mistakes, they are left to fend for themselves, and could potentially bring down the whole company.

From a psychological perspective, one can say many in Finance are educated above their intelligence.

People may study Finance and dream of Wall Street for the similar reasons Hollywood attracts young wanna be starlets; they watch too many movies and dream of glory, fame, and money.  That’s fine, it’s a free country, and as many a Communist said “Capitalists will sell the noose to hang themselves.”  But what type of quality are we left with?  To use Wall Street expression “You can’t put lipstick on a pig” – nor can you increase the intelligence of a human being.  You can educate them; but based on their IQ they have a limit, as we all do.  And it’s impossible to educate someone (anyone) beyond their limit to understand.

As with any growth industry, and Wall Street has had an ‘epoch’ of growth (even considering market crashes), new companies form, and people are hired.  But do we really need a sea of well educated but yet incompetent workers?  How many people does it really take to manage a bank?  Certainly not 50,000.  With the advent of computing, the only task that cannot be automated is talking to other people (whether by phone or in person).  But do we really need this?  Oh we do, sorry I forgot about sales.  See, our strategy is really a bunch of toxic waste, and we need young ambitious kids on the phone selling this crap.  That can’t be automated.  But look where we would have been if sales didn’t exist, there may have been no .com bubble, no real estate bubble, no sub-prime bubble.

The point is, having a sea of workers who are educated above their intelligence in an industry that can collapse the world economy, ruin countries, corporations and families, and cause huge economic devastation, is very dangerous!

But in a society based on lies (marketing) – better lies that are in compliance with regulations, are seen as a sign of strength to the HR department (get more sales) whereas an honest analyst whose warning of a real estate crash in 2005 is laughed at, teased, and maybe even fired.

To make a ‘positive’ comment from the other side of the spectrum, there are a handful (in percentage terms) who really understand how the financial system works.  Some are in Academia (very few!), some in trading, and some from other fields.  We see them on the internet, on Zero Hedge, and occasionally on mainstream financial media.  But they are far the minority.  And many are behind the scenes, people we do not know and may never know.

The problem with this incompetent mass is that since they do not fully understand the system, they do what they know how to do (which is usually not very smart).  This is bad for the organization they work for, and it’s bad for the financial system as a whole.

The solution is that the stewards of the financial system should not be the “Kings of Wall Street” living in palaces, they should bePhilosopher Kings as according to Plato.  They should have all resources available to them, but paid only a salary for an average existence (no bonuses!).  The entire model of private for profit banks, competing in the free markets with financial products, sitting opposite ‘regulators’ with Congress in between, is not only a farce, it’s a system based on conflict of interest.  This design itself is a conflict of interest, when these for profit banks are Washington’s largest financial supporters.  The rotating door of executives turn regulator ensures that there is no regulation going on.

 “Oh we can get an FCM license immediately, we just need to get to XXX XXXX and grease him up a bit” – Anonymous securities attorney

A system based on conflict only breeds conflict, as the saying goes “In a crooked environment, crooks are the most honest people.”  Is it possible to have an honest financial system?  Of course it is!  There are hundreds of historical examples of financial systems based on real money (not ever expanding debt based fiat currency).  They even exist today, although the dominant system is that controlled by the world’s central banks.  But the most amazing thing about such an honest system based on real value, banks could still compete in this system for a profit (although it would be more difficult because they would not have a complete monopoly, nor access to create as much free money as they need).  But this is far from a socialist idea.  In fact, there are hundreds of potential political and economic systems, which have nothing to do with Capitalism or Communism.  In fact these 2 words have become so overused in the wrong context, and used for social programming, they are synonymous in the West with good and evil, also a mis-characterization, because you have almost infinite number of types of Capitalism, which is also different in every culture.

For generations we have been programmed to a belief system where only 2 options exist; good and evil, Coke and Pepsi, Republican and Democrat, Capitalism and Communism (or Socialism if you want).  This is very deceptive and completely untrue (although they have nearly made it true because everyone believes it so now it is our reality).  There are hundreds of economic and political systems that have been used and tested in practice, and countless others that have been researched and theorized.

One example of an economic system that is not very well known is that of Endogenous money.

 Endogenous money creation or destruction is the concept that each participant in the economy has their own version of a ‘printing press’ for money. This concept was explained by Irving Fisher in his treatise on The Theory of Interest (1930) in terms of the value of currency being affected by two (potentially opposing) movements – expected growth in the money supply reducing the real purchasing power of money and expected increases in productivity increasing the real purchasing power of money.

While the concept of each of us having our own central bank seems almost ridiculous, consider how Bitcoin has changed the way we think about money.  Bitcoin is not backed by any central bank, and while not the private money of an individual, it was created and designed by private citizens (not central bankers) and is now being used as a payment system and investment by millions around the world.  Another interesting example is currency based on barter, or a system that simply tracks economic transactions between participants using a credit system.

 A local exchange trading system (also local employment and trading system or local energy transfer system; abbreviated to LETS or LETSystem) is a locally initiated, democratically organised, not-for-profit community enterprise that provides a community information service and record transactions of members exchanging goods and services by using the currency of locally created LETS Credits.

The only way to achieve a new financial system that is sustainable (and more fair), is through financial education and training.  If the majority of the public knew what goes on at their financial institution, they probably wouldn’t participate.  Some have even speculated that Cocaine was the major cause of the financial crisis.  More likely it was stupidity, but certainly regular Cocaine use doesn’t help you make good financial decisions.

 George Bush Sr. was once quoted as saying: “If the American people knew the Damage we have done to their Country, they would hang us from the nearest lamp post.” 

The real intelligence in a fair and honest financial system is that we wouldn’t need regulators, we wouldn’t need sales people (they can sell cars, or we can pay them to stay at home and not bother us with their telemarketing) and there wouldn’t be an ongoing financial crisis.  We have technology today that can manage such a system very efficiently and cheaply.  The modern financial system as it is today has it’s roots over 500 years ago.  It might be time for an update.