Sunday, November 25, 2012

Why our nations are failing!

Daron Acemoglu and James A. Robinson have written an interesting book titled “Why Nations Fail”. In it they detail the importance of having adequate economic institutions and of creating incentives that rewards innovation and allows everyone to participate in economic opportunities. 

To my surprise though, the importance of the willingness to take risks, is not mentioned. 

Bank regulators, about a decade ago, with Basel II, out of the blue, authorized by I don’t know who, suddenly decided that our banks should take less risks than usual, and allowed the banks to hold much lower capital when exposed to assets perceived as “The Infallible” than when holding “The Risky”. 

That meant that banks would be able to earn immensely higher expected risk adjusted returns on their equity when lending to “The Infallible” than when lending to “The Risky”. 

That meant that our bank regulators effectively locked out “The Risky”, like small businesses and entrepreneurs from having access to bank credit on equal terms. 

And that also meant the bank regulators doomed our banks to end up overexposed and holding too little capital to assets that though they ex-ante could qualify as “The Infallible” got too much access to bank credit, on too generous terms, and therefore, ex-post, turned into extremely risky assets. 

And I know for sure, that when a nation starts worrying more about its “History”, “What It Has Got”, “The Infallible”, “The Old”, than about its “Future”, “What It Can Get”, “The Risky”, “The Young”, it will stall and fall… no doubt about that. Risk-taking is the oxygen of any economic development.

And now our bank regulators are even doubling down on their mistakes. Basel III will not only conserve the capital requirements based on perceived risk, it will now also have liquidity requirements based on perceived risks. 

Come on, Europe, America (Home of the Brave)… what happened to our “God make us daring” that we used to pray for in our churches?