The best and the brightest: Private vs public sector

The Portfolio article that I linked in my last piece made reference several times how people involved in both regulatory affairs and investment banking weren’t “smart enough” to understand the toxic investments they were buying, selling, and (supposed to be) rating. That got me wondering whether there is a correlation between employee intelligence in the private sector vs the public sector for finance types and economists. Theoretically, the private sector should attract the best and the brightest because it pays the most.

The highest paid government official in the United States is the President himself, who makes a salary of $400,000 a year, not counting ancillary benefits.

While it’s never been easy to make this kind of money in the private sector, it’s certainly possible. Ben Bernanke’s salary as chairman of the Fed is just over $191,000. Henry Paulson as CEO of Goldman Sachs made $16.4 million according to Forbes. There’s two orders of magnitude difference there. Obviously there are other benefits associated with being a highly-ranked government official, but those benefits are generally in the future when one leaves the public sector for the private. I won’t get into discount rates and net present values, but generally this road can be profitable, though probably not profit-maximizing.

Another common trend is for an individual to make his or her fortune in the private sector and then move to the public sector. Henry Paulson is probably the epitome is this type of individual. I think this road is probably the more profit-maximizing of the two possible pathways thanks to compound interest.

But there are many people who don’t migrate from one to the other, and is there a correlation with relative intelligence of one sector over the other? Firms are profit maximizing, and people are theoretically utility-maximizing, with money being the most fungible obvious resource for maximizing that utility. That suggests that the private sector should, on the whole, be able to “outwit” the public sector much of the time because they’re able to cherry-pick the best and the brightest with the leftovers going into the public sector, all other things being equal.

Finding public sector work more rewarding than private sector profit maximization will always play a role in determining which jobs people take. If a person gets greater utility from the fulfillment doing work in the name of public service or teaching than they would get from a greater salary in the private sector, they won’t migrate. On the other hand, I find it very hard to believe that compensation plays no role whatsoever in an individual’s choice of employment.

Thoughts?

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