As economies around the world, especially in Europe, continue to struggle in their return to robust growth, American investment banks are quickly establishing themselves as the global leaders in financial deal making once again. While in the darkest days of the financial crisis European politicians were quick to point to the flailing industry as an example of insufficient regulation, today, American investment banks are having the last laugh. American giants JP Morgan, Goldman Sachs and Citigroup alone account for one third of industry revenues. This while their European peers are struggling to keep their heads above water as a crisis of confidence sweeps over the struggling Eurozone.
In the United States, the financial crisis was dealt with swiftly. Financial institutions were forced to take substantial write downs and aggressively raise capital, sometimes directly from the taxpayer. Clearing their balance sheets of toxic assets and taking the bitter pill up front has allowed them to return to strength more quickly. On the other hand, European institutions are being forced to reduce their balance sheets – and reduced assets means reduced revenues.
Flexible Compensation Rules Allow American Institutions to Retain Top Talent
Another factor playing into the disparity between American and European investment banks are regulatory changes relating to bonus pay. In Europe, regulators have capped the amount that can be paid out as bonuses. Even worse, these same regulators require more compensation to be paid out as base salaries, which reduces flexibility in dealing with the regular cyclical nature of the industry. This has caused a migration of talented professionals westward to the United States, where the promise of higher bonuses has attracted top performers.
European Regulators Also Attempt to Address “Too Big to Fail” Moral Hazard
Despite clamoring by taxpayers and some politicians, the United States has been slow to address the risk that their financial industry may require future government bailouts. While this has allowed their investment banks to access cheaper capital through diversified financial operations, it may make the industry more vulnerable in the future. On the other hand, Europe is aggressively splitting riskier investment banking operations from traditional banking activities, effectively raising the cost of capital for investment banks but reducing the chance that the public would be left on the hook for excessive risk taking. While in the short run the American investment banks certainly benefit from the difference in policy, the longer term implications are unclear and may eventually favor European institutions.
While it seems as though the American financial titans are returning to form, questions linger about how risk is being allocated and whether the financial system is any more secure today than it was five years ago amidst the financial panic. While the Europeans can point to concrete measures to reduce the risk to taxpayers, Americans instead have adopted a path of enjoying near term success, with a more uncertain future. As a result, investment bankers likely are seeing more opportunities available in the United States, though competition for these positions may be heating up as their European peers seek out new opportunities in markets that are, currently at least, more robust.