The rarified air of high finance

This WSJ article by David Wessel contains an absolutely stunning statistic: even after a controlling for SAT scores, GPA, gender, and anything else Claudia Goldin and Lawrence Katz could think of, Harvard grads who went into finance earned 195% more than similar grads in other careers.

Three times more.

In a nutshell that absolutely destroys the notion that returns to education are primarily responsible for the increasing income inequality in the US. Even among roommates at Harvard, income inequality is striking.

The article claims that finance is on par with modern science in all the grand things that it has done for us. Unfortunately, contra Wessel's specific claim, home ownership in the US has fallen back to where it was before the housing bubble really took off. The question for economists is just what kind of value added Wall Street (my proxy for the finance industry in general) really provides. I'm inclined to think that rent seeking behavior has a substantial role in this.

Is the reason that Wall Street commands such a huge share of the economy simply because that's where the money/capital is? A simple minded thought but elaborating a bit may make the point more clear. If the US was dependent on the Mississippi River for the irrigation of the entire country, and one dam was the spoke that all water had to pass through...would we be surprised if the dam proprietors and workers did quite well for themselves? Could we complain that the infrastructure was much more elaborate than is really necessary to be functional? How would we know the difference?

At the most fundamental theoretical level, the financial industry exists to connect savers with borrowers. Due to the difference in time preference and risk appetite of both groups, myriad financial instruments have been developed. Regardless, a shocking portion of Wall Street activity is secondary transactions. Perhaps this secondary activity is beneficial, perhaps this is simply the finance industry printing money in the form of fees. Going back to the water analogy, are we mesmerized by the equivalent of the waterfall optical illusion, where water seems to flow downhill before reaching the top of the waterfall?

Ownership aside, we should expect quite a clamoring for finance jobs if the results that Wessel cites are robust. Will enough people enter high finance to bring the rent seeking behavior back down to earth? Or will we have to start a welfare program for Harvard grads not going into finance?