This wiki is associated with Cognito Mentoring, an advising service for learners run by Jonah Sinick and Vipul Naik. The wiki is very much in beta, so you're likely to find many broken links and incomplete pages. Please be patient with us as we continue to improve our offerings.
Please connect with us to offer feedback on the wiki content.

Social value of finance

From Cognito
Jump to: navigation, search
This page discusses the social value of finance | View other pages on the social value of particular activities

If you're considering working in finance, you may wonder about the social value that working in finance produces. Actors in finance produce both social value and social disvalue, and it seems difficult to make a general statement about whether the typical worker at an investment bank (for example) does more good or harm. The situation probably varies from sector to sector of finance. We give some relevant considerations below.

Earning to give: the primary consideration in favor of finance

Because the earnings are high in finance, finance has been highlighted as a promising career track for people who want to engage in earning to give, i.e., people who want to choose a career with the explicit goal of being able to donate larger sums of money to charity. In fact, earning to give seems to be the dominant reason for finance even being considered as an option for people interested in doing the most good.

The 80,000 Hours blog category "finance" mostly discusses finance in the context of earning to give, but some of the posts also discuss other potential pluses and minuses of finance to see the extent to which they alter the calculation of social value. Some posts worth highlighting:

  • Show me the harm by Benjamin Todd, 80,000 Hours, July 31, 2013, argues that the harm one might do in finance is small relative to the good that one can do by donating 50+% of one's income to highly effective charities.
  • Case study: can I earn more in software or finance? by Benjamin Todd, 80,000 Hours, January 30, 2014, discusses the case of Jessica, a Google engineer who consulted 80,000 Hours for advice on whether to switch to finance to be able to engage in earning to give more effectively.

How finance helps: the basic model

In general, there's a correlation between income and social value contributed. The fact that the earnings of people who work in finance are high raises the possibility that workers in finance contribute high social value.

People and organizations sometimes have a temporary need for money to accomplish their goals, and people and organizations are sometimes willing to lend money for a fee. Actors in finance who enable these transactions benefit both the borrower and the lender, and are paid accordingly. Actors in finance who can enable a larger quantity of transactions, or enable transactions that generate more value, get paid proportionally more. Similarly, actors in finance who lend money themselves benefit the borrowers and are paid accordingly.

The proportion of activity in finance that fits this basic model is unclear. Many of the transactions in finance are many steps removed from the basic activity of enabling borrowers and lenders to connect. Some of these transactions indirectly enable borrowers and lenders to connect, and others don't. It can be very difficult to tell which are which from the outside.

Relevant discussions:

Unproductively increasing the efficiency of the market

If a company is looking for an investor and nobody is willing to invest, this is bad for the company. If the company is deserving of an investment, you spot this, and nobody is willing to invest, then you can benefit the company and make a profit by investing.

But suppose there are actors who are willing to invest in the company, and you invest in the company a tiny bit faster than the other actors. The company doesn't benefit much from this, because it would have gotten an investment anyway. The other people who would have invested are harmed by this, because they can't make a profit. So the social value that you contribute is much smaller than it would have been if nobody had been willing to invest within the same rough timeframe.

Some activity in finance takes this form. High frequency trading is a candidate for a sector of finance that makes money through buying and selling stocks a little bit faster than others, without contributing much social value. The transactions that high frequency trading firms make occur on a time scale of a fraction of a second, and it's unclear that enabling people to buy or sell a stock a fraction of a second faster helps them to an appreciable degree, even after taking into account the number of people involved.

Pushing off tail risk onto the government

Some firms in finance are "too big to fail" in the sense that if they were to go bankrupt, the whole economy would suffer enormously, because of their interconnectedness. When they're in danger of bankruptcy, the government will often lend or give them money to keep them afloat. Because the firms are aware that they'll likely be supported by the government in the event that they make bad investments, they'll sometimes make very risky investments, that have high upside to them if they pan out well, with the expectation that if they pan out poorly, the government will cover their losses. Such actors effectively make their money at the expense of the taxpayers, thereby contributing negative social value.

Not all actors in finance behave in this way.

Causing financial crises

As above, sometimes "too big to fail" firms will take risks that they're not able to handle, with the expectation that the government will cover their losses. If they're in danger of bankruptcy and the government doesn't cover their losses, this can precipitate a financial crisis. In particular, the collapse of Lehman Brothers is thought to have played a major role in the 2008 financial crisis. In this way, actors in finance may be able to cause damage far out of proportion with their earnings.

As above, not all actors in finance behave in this way.

Some people have raised the possibility that high-frequency trading could cause a financial crisis on account of increasing the stock market's volatility, but others have disputed it, or even claimed that high-frequency trading reduces the stock market's volatility.