Friday, August 3, 2012

“L'economia castrata”: The castrated economy which resulted from when regulation nannies castrated our banks

What would you think of a military high command that ordered a testosterone reducer to be fed to the soldiers so they would expose themselves less to risks, and so fewer of them would die? Right! That would indeed be high treason, as it would guarantee defeat. 

But that is precisely what bank regulators have done to our banks: 

Current capital requirements for banks, based on ex ante perceived risk, allow banks to hold much much less capital on assets perceived as “absolutely safe” than on assets perceived as “risky”. 

That allows banks to earn much much higher risk-adjusted returns on equity, when lending to “The Infallible”, than when lending to “The Risky”; 

And that results in that banks will lend, even more than usual, at even lower rates than usual, to sovereigns, housing and the AAAristocracy; and even less than usual, at even higher rates than usual, to medium and small businesses, the entrepreneurs and start-ups. 

And those regulations signify, as you can understand, a powerful testosterone reducer. 

And so the regulators have effectively castrated the banks and as a result we have a castrated economy with growing dangerous obese exposures to what was or is officially deemed as “not-risky”, triple A rated instruments and “infallible” sovereigns and housing; and equally or even more dangerous anorexic exposures to what is officially perceived as “risky”, like small and medium businesses, entrepreneurs and start-ups. 

God save us! From dumb regulators who do not understand that risk-taking is the oxygen of any movement forward. 

And before we get the testosterone level of banks back to normal, there is no stimulus package that will work, and we will only be wasting away whatever little fiscal and monetary policy space remains.