John Kay’s latest book, Other People’s Money. The Real Business of Finance, is a tutorial on finance, a reminder of fiduciary responsibility, and a caution—at times, a scalding caution—about what happens when knowledge and responsibility are overwhelmed by self interest.
Financial advisors can gain wisdom and validation from Kay’s book, but Kay says that because personalized, individually-tailored financial advice is growing scarce, computerization is filling the gap.
“The computer has two potential advantages over the financial advisor: the computer is as honest as its programmer, and the processes and conclusions of the computer can be monitored and reviewed.’’
If Kay sounds cynical about the character of some who handle other people’s money, he argues forcefully that the financial sector deserves chastising, and he urges reform of its basic structure.
He is a professor of economics at the London School of Economics, a columnist for the Financial Times and a director of several publicly held companies.
The primary culprit in the troubling way finance works today is “financialization,’’ Kay writes. He credits Gerald A. Epstein, a professor of economics, and sociology professor Greta R. Krippner, with defining the term. In Epstein’s 2005 book, Financialization and the World Economy, Epstein writes, financialization can mean “the ascendancy of ‘shareholder value’ as a mode of corporate governance; the growing dominance of capital market financial systems over bank-based financial systems; the increasing political and economic power of a particular class grouping; the explosion of financial trading with a myriad of new financial instruments; a ‘pattern of accumulation in which profit making occurs increasingly through financial channels rather than through trade and commodity production’; and the increasing role of financial motives, financial markets, financial actors and financial institutions in the operation of the domestic and international economies.’’
With financialization, the size of the financial sector as a percentage of the gross domestic product has grown from 2.8 percent in 1950 to 7.9 percent in 2012. Incomes in the financial sector have increased more than in other sectors of the economy—a 70 percent increase in income relative to other workers since 1980, according to Investopedia.com.
“But the true value of the finance sector to the community is the value of the services it provides, not the returns recouped by those who work in it. These returns have recently seemed very large. Why is the industry so profitable? Or perhaps why does it appear so profitable?’’ Kay asks.
Kay says growth in the finance sector has not been in the creation of new wealth but in the appropriation of wealth from other parts of the economy, for some of those who work in the financial sector.
“Too much of a good thing’’ and “egregious excess,’’ unchecked by regulation or regulatory agencies, can implode as it did with the global financial crisis of 2008. Kay writes that some of the players in that collapse, such as Bernard Madoff, were imprisoned, but others survived with immense personal wealth.
In lively, often witty chapters describing how we arrived at financialization, including on the functions of finance and the role of regulation and economic policy, Kay does not mince words: he warns that in the United States and Great Britain, we are in danger of approaching oligarchy.