Unexpected Consequences

A couple of months ago, after I had finished running at the indoor track at school, I ran into one of my professors from last year.  The big news at the time was the new TARP plan from the treasury.  I asked him what he thought about it.  His initial expression was enough to let me know he wasn’t a big fan, but one of the things he said really stuck out.  He said something to the effect that even though they mean well this plan will have unexpected consequences. Because of how complicated and interconnected the economic world is there will be some sort of incentives imbedded in the plan that weren’t intended and probably not anticipated.

Which leads me to this.  Morgan Stanley is thinking about spinning off, or restructuring, one of it more profitable proprietary trading desks.  Prop trading desks usually employ some of the sharpest people at an investment bank.  They develop and implement trading strategies that make up a significant pool of most investment banks profits, they also get paid based on how well there strategies work, meaning they make a lot of money in bonuses.  As a result of TARP rules that limit the amount these traders can make, these highly skilled traders are nervous about their compensation and Morgan Stanley is trying to find a way to keep them. 

Here lies the unexpected consequence.  The point of TARP was to strengthen banks allowing them to lend again, or resume normal operations.  But with all the public outrage at bonuses (somewhat deservedly), and the administrations longing to appeal to the masses, they have created a program that drives away the people who are making money for firms, and causing banks to make changes in order to keep talent.  Maybe this will work out for good and businesses will be able to adapt, or maybe more talented traders will leave banks and start there own funds where they are free from excessive government controls. 

Who knows maybe this is a good thing.  For quite some time the big investment banks have held a large portion of their markets, this may help to make the industry more competitive.  Competition does make business more efficient, which is ultimately better for society.  Either way policy makers should be careful, every time the rules change, and politicians try to target specific problems, instead of making sound general legislation, others pop up that are unexpected and may be worse than the original problem.