Thursday, January 1, 2015
In 1999 in an Op-Ed I wrote: “The possible Big Bang that scares me the most is the one that could happen the day those genius bank regulators in Basel, playing Gods, manage to introduce a systemic error in the financial system, which will cause the collapse of our banks”
And so of course when I surprisingly got appointed to the World Bank as an Executive Director, among the million things management had us doing so that we would have no time to disturb, bank regulations was something I looked at.
Here are the formal things I said as an Executive Director at the Board of the World Bank, about bank regulations. In retrospect you might have thought I would have a strong voice in the debate. Not so, I was way too right for my own good.
March 2003: In this otherwise very complete Global Development Finance 2003, there is no mention about the issue of the growing role of the Independent Credit Rating Agencies, and the systemic risks that might so be induced, when they are called to intervene and direct more and more the world’s capital flows.
This is not a small issue… for instance the document states: Basel II “risk weights would be set for a bank’s exposure to sovereigns, corporations, and other banks based on ratings from major credit-rating agencies… the new methods of assessing the minimum-capital requirement is expected to have important implications for emerging-market economies, principally because capital charges for credit risks will be explicitly linked to indicators of credit quality…”
March 2003: Basel is getting to be a big rule book,” and, to tell you the truth, the sole chance the world has of avoiding the risk that Bank Regulators in Basel, accounting standard boards, and credit-rating agencies will introduce serious and fatal systemic risks into the world, is by having an entity like the World Bank stand up to them—instead of rather fatalistically accepting their dictates and duly harmonizing with the International Monetary Fund.
April 2003: Basel Committee dictates norms for the banking industry that might be of extreme importance for the world’s economic development. In Basel’s drive to impose more supervision and reduce vulnerabilities, there is a clear need for an external observer of stature to assure that there is an adequate equilibrium between risk-avoidance and the risk-taking needed to sustain growth. Once again, the World Bank seems to be the only suitable existing organization to assume such a role.
Ages ago, when information was less available and moved at a slower pace, the market consisted of a myriad of individual agents acting on limited information basis. Nowadays, when information is just too voluminous and fast to handle, market or authorities have decided to delegate the evaluation of it into the hands of much fewer players such as the credit rating agencies. This will, almost by definition, introduce systemic risks in the market and we are already able to discern some of the victims, although they are just the tip of an iceberg. Once again, perhaps only the World Bank has the sufficient world standing to act in this issue.”
A mixture of thousand solutions, many of them inadequate, may lead to a flexible world that can bend with the storms. A world obsessed with Best Practices may calcify its structure and break with any small wind. Who could really defend the value of diversity, if not The World Bank?
October 2004: Phrases such as “absolute risk-free arbitrage income opportunities” should be banned in our Knowledge Bank. We believe that much of the world’s financial markets are currently being dangerously overstretched through an exaggerated reliance on intrinsically weak financial models that are based on very short series of statistical evidence and very doubtful volatility assumptions.
And then of course is the speech I gave to some hundred regulators, but that none of them heard :-(