Semantics and Incentives

Matt Levine is a Bloomberg View columnist. He was an editor of Dealbreaker, an investment banker at Goldman Sachs, a mergers and acquisitions lawyer at Wachtell, Lipton, Rosen & Katz and a clerk for the U.S. Court of Appeals for the Third Circuit.
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Greece.

I guess I'd start here, with the calendar of plausible deadlines for Greece and its euro-area counterparts to work out a deal. Deutsche Bank:

Program conclusion on February 28th is not the point of “no return”, but instead the soonest of when Greek banks are no longer able to access additional ELA at the ECB window OR when the Greek government runs out of financing.

Deutsche estimates that date at mid-to-late March. Citi agrees that it's "still early days" for the Greece-versus-Europe negotiations. There will be so much more of this, is the point. 

So far, not so great. Talks yesterday "ended abruptly and Greek Finance Minister Yanis Varoufakis claimed a bait-and-switch," and there seems to be internal discord within the euro area over whether to insist on extending Greece's existing austerity-for-bailouts deal or to grant Greece a bridge loan to allow time to negotiate a more lenient deal. Extending the bailout doesn't really seem that different from bridging to an extension of the bailout. So there might be a way forward:

It is not difficult to see how a form of words might be found to bridge this gap; one wag suggested that the deal be called an extension in the German language text and a bridging loan in the Greek version.

It is hard to know how seriously to take the view that this is a fight over semantics more than substance. As Citi puts it, "There is a point of view that says this is similar to wrestling -- appearance of violence, largely faked, delights the fans on both sides." And here is Dan Davies on sustainability and the fiscal multiplier: "Focusing the language on debt sustainability (rather than surplus targets per se) is the graceful way for the hardliners on the Eurogroup to climb down." Duncan Weldon is also mildly optimistic. On the other hand, several commentators put the chances of a Greek exit from the euro at 50 percent or more, and the "extension" versus "bridge" language seems like code for real disagreement about whether serious renegotiation of Greece's harsh austerity program should or should not be on the table.

Meanwhile, Greek finance minister Yanis Varoufakis has an op-ed in the New York Times today, which he says was written "on the margins of a crucial negotiation with my country's creditors." (Though here's a picture of Varoufakis's marginal notes on the draft eurogroup communique, which don't seem to include the op-ed.) It interestingly disclaims game theory:

I am convinced that we have one option only: to shun any temptation to treat this pivotal moment as an experiment in strategizing and, instead, to present honestly the facts concerning Greece’s social economy, table our proposals for regrowing Greece, explain why these are in Europe’s interest, and reveal the red lines beyond which logic and duty prevent us from going.

Of course, he would say that; "red lines" are more convincing if you present them as actual limits, not strategies in a game. Plus, his only threat is to leave the euro, and "If that threat is to be credible, it has to be, at least in part, irrational in game theoretic terms." Speaking of red lines, here is an amazing interview that Der Spiegel conducted with Varoufakis on February 5 and just got around to publishing yesterday; it starts like this:

Varoufakis: For the past five years, Greece has been subjected to austerity measures that it cannot, under any circumstances, meet. Our country is literally being pushed under water. Just before we suffer an actual cardiac arrest, we are granted a momentary respite. Then we're pushed back under water, and the whole thing starts again. My aim is to end this permanent terror of asphyxiation.

SPIEGEL: Do you really think "waterboarding" is an appropriate metaphor for a rescue package?

Varoufakis: Well, it managed to get your attention, didn't it? So it worked.

SPIEGEL: You are comparing a rescue package with a form of torture the CIA used on prisoners. But Greece was showered with money, not water.

Even if the fight is just over semantics, the positions on semantics do seem rather far apart.

Incentives.

Basic arithmetic tells you that if you're in charge of other people's money, and they pay you a share of any money that you make for them, but you don't have to give them anything back if you lose money, then that creates an incentive for you to take risks. Heads you win, tails you try again elsewhere. So there is a certain amount of unavoidable baloney in the "rules to curb compensation packages that could encourage excessive risk taking" that regulators are now considering: Any compensation package encourages risk taking, and what does "excessive" mean anyway? One idea is that deferring compensation over several years should make bankers and traders more long-term-oriented, and that seems true, but I feel like it's easy to overstate the idea that banks are stuffed full of bombs placed there by traders just looking for one last score. 

On the other hand, I suppose the arithmetic does support the idea of clawbacks:

Regulators are considering requiring certain employees within Wall Street firms hand back bonuses for egregious blunders or fraud as part of incentive compensation rules the 2010 Dodd-Frank law mandated be written.

The problem is that no one expects clawbacks to be enforced except for, at most, egregious criminality: A Fed governor says that clawbacks are "fairly extreme, but there should be the possibility for that," while the New York City comptroller's office complains that "many big banks have resisted the office’s efforts to have them routinely disclose when and how much compensation they claw back," presumably because the answer rounds to never. So you can probably go ahead and take risks without worrying about a clawback. And this is the right answer! A system where traders had to pay for all the losses they cause would be very risky for traders. So smart qualified people who could do other things wouldn't want to trade for banks. Unless they were, you know, incredibly risk-loving.

Speaking of incentives.

We talked a while back about how Goldman Sachs is America's most hated corporation, but here is anonymous blogger Epicurean Dealmaker defending Goldman. (Disclosure: I worked there, and didn't hate it.) Or, I mean, not defending Goldman, just saying that Goldman doesn't care what random survey recipients think of it:

Goldman Sachs’ clients also understand that the markets and services in which it operates are tough, unforgiving, sharp-elbowed places. Having a bad reputation -- scary, ruthless, willing to throw your weight around -- is exactly the kind of banker many (most?) clients want at their side. This is the very same sort of thinking that compels common folk like us to hire flesh-eating lawyers when we get into a legal dispute, notwithstanding the fact lawyers’ reputation for probity has ranked somewhat beneath pond scum for, oh, approximately forever. Nobody wants to bring Mother Theresa to a knife fight.

This is my thesis about recruiting too: If you're going to go into financial services, you're probably not, you know, focused on the "services" part. You want to be rich and feared, and what better place for that than Goldman Sachs?

Elsewhere in hated banks, U.K. regulators are not well pleased with HSBC for all of its recent tax-dodgery problems, which feels a little unfair because those recent problems consist of leaks of things that actually happened like a decade ago. But they're in the news now, and so every regulator in England is launching an investigation. And here is Matt Taibbi on HSBC and Loretta Lynch.

Some market structure.

I sometimes joke that every few months there's a new story about a group of investors or banks or whoever starting a new electronic trading platform for corporate bonds, and ... that seems not to be a joke?

Around 30 e-trading platforms are currently competing to address the liquidity crisis in corporate bond trading, but market players say most will fall by the wayside in the months ahead.

Yeah but like 30 more will be invented, so it's fine. Meanwhile here is a theory from consultant Frederick Ponzo:

"You must pick a trade-off between transparency of price discovery, managing the time mismatch and protecting against adverse leakage of information," he told IFR.

"A corporate bond execution facility cannot achieve all three. In pursuing two, the platform operator must forgo the third."

Elsewhere, here's a little story about anonymity in equity markets, and how UBS's orders on Nasdaq are marked with UBS's identifier and seem to underperform other orders:"

If these are orders from less sophisticated individuals, they might well be limit orders with the price chosen by the client instead of the broker; in which case all the client wants is to maximize their probability of being executed at the price submitted, without regard for what happens in the minutes afterward. By posting them to Nasdaq with the MPID field populated, UBS is essentially putting a giant “hit me” sign on these orders, which should get them a better fill rate, even if the rest of the market is making money off them.

This is a microcosm of the general story of modern equity markets for individuals: You get cheap fast certain execution because sophisticated traders love to interact with your orders, because your orders are wrong. But whose fault is that?

Things happen.

New York has non-Wall-Street jobs too you know. Asset managers are closing the pay gap with investment bankers. There's a lot of turnover in Preet Bharara's Wall Street task force because all the prosecutors keep leaving for big firms. Davis Polk on the Marblegate Trust Indenture Act decision. Former Goldman Sachs employee convicted of killing drug dealer, Bronx DA says. "Your default rage at the market economy is a brand strategy, for sure, but a niche one, with appeal limited to a narrow social class." Mining Bitcoin with Excel. "The app doesn’t allow users to make investments, but that could change."

This column does not necessarily reflect the opinion of Bloomberg View's editorial board or Bloomberg LP, its owners and investors.

To contact the author on this story:
Matt Levine at mlevine51@bloomberg.net

To contact the editor on this story:
Zara Kessler at zkessler@bloomberg.net