A Thought Experiment on Incentives


Suppose we lived in a world where a huge proportion of the very wealthiest people were highly skilled surgeons. They trained in school for many years and worked long hours, but they also made way more money than most people. Some ornery liberal might say we should put a special tax on surgeons because they’re so rich and greedy. The problem, though, is that a special surgeon tax would discourage people from going into the surgery field. In the next generation, the proportion of people who had the right attributes to be excellent surgeons but chose to do something else instead would rise. Consequently, a lot of surgery would wind up getting done by surgeons who were second-rate. Lives would be lost. Which isn’t to say that surgeons should get off tax free, but clearly there are reasons to keep one’s egalitarian impulses in check.

But of course we don’t live in a world like that. Instead, we live in a world where a huge proportion of the richest people work in the financial services sector. Consequently, it’s a world where at my fifth year reunion this spring a huge proportion of the Harvard class of 2003 was working in finance. But what if the top people didn’t have such strong financial incentives to go into finance. What if we had to put up with second-rate investment bankers and hedge fund managers? Would they . . . cause a huge financial crisis? Ha!

Meanwhile, instead of the current situation where the financial sector — which on some level just seems to be dominated by charlatans trying to trick people into believing they know how to meet the market — actually sucks people with quantitative skills out of science and engineering, we would have a situation where the people with those skills were pushed into doing productive work.