Thursday, September 27, 2012
If German banks had only two clients, German small businesses and Greece, and where required to hold 8 percent in equity, 12.5 to 1 leverage, they would lend their funds to whoever produced the highest risk-adjusted return on that 8 percent equity.
But if German regulators told the German banks that though in the case of the German small businesses they still needed to hold 8 percent of equity, in the case of Greece, only because regulators considered Greece to be safe given its ratings, German banks had only to hold 1.6 percent of equity, allowing them 62.5 to 1 leverage… who do you think German banks would lend to?
It is amazing how German bank regulators have avoided to be held accountable for what happened. That same question holds of course for the bank regulators of most other countries.