Risk vs. Reward - how much is too much?

Our magnificent economic system is built on the concept that you should be rewarded for taking appropriate risk in business. The less risk you are willing to take, the less should be your reward. By contrast, the greater the risk you are willing to take, the greater should be the potential reward if it works out well. That's a fundamental concept behind a capitalist system, because it encourages the kinds of actions that produce growth and profits and it weeds out the kinds of actions that don't.

That's all good. Until it gets out of balance. That happens when the risk taker collects on the winners and looks to someone else to bail them out from the losers. Then it's not risk vs. reward any longer, it's reward vs. try again. With that little adjustment the capitalism gets tossed out the window and we switch to socialism when things don't work out. There is no incentive to manage the risk if there's no real downside. And without risk management you have chaos. And indeed that's what we got.

So with that little homily in economics, consider recent news stories of huge bonuses emerging again on Wall Street, and for the same kinds of actions that brought you 2008 - the Big Meltdown. Morgan Stanley just reported a large second quarter loss, still recovering but clearly surviving and rebuilding. Along with the loss, according to the Los Angeles Times, they announced $3.9 billion in bonuses and other compensation for the quarter - almost three quarters of their gross revenue for the quarter! That's gross REVENUE, not gross profit! And we're told this is a growing trend among Wall Street firms as they resume the pursuit of activities that can make a lot of money if they work out. And if they don't? Well, we can't let these firms fail, can we?

So here's the view from this corner: Maybe it IS time for the insurance company - the US government using your money in this case - to legislate some limitations on the actions it considers likely to increase the risk of it having to pay claims, just like every other insurance company does. Maybe it's time to limit the bonus plans that encourage unreasonable risk. Maybe these ultimate risk takers should find another line of work so we don't have to pay for their mistakes.

As always I welcome your comments.