Saturday, January 24, 2015
The pillar of current bank regulations issued by the Basel Committee for Banking Supervision is “the risk weighted capital requirements for banks”.
For those interested, a more accurate name would be “the portfolio invariant credit-risk-weighted equity requirements for banks”
In essence it signifies that the more the ex ante the perceived credit risk is, the more equity banks need to hold.
That does not make any sense! It is never what the perceived credit risk is that constitutes any real risk for a bank and much less for a banking system. It is only how wrong banks could have perceived the risks to be, which represents the real risk.
If something is perceived as safe and turns out risky, everything is ok.
If something is perceived as risky but turns out to be less risky, then that is only good news.
If something perceived as risky turns out to be even more risky, then that is bad, but at least in that case one can suppose the balance sheet exposures to be lower, and that the bank has been receiving higher risk premiums that partly compensate.
But, if something perceived as safe turns out ex post to be risky, that is where the real dangers lie.
And so we can only conclude in that: the safer a bank asset may seem the more dangerous it becomes… and which is 180 degrees opposite of what current regulators think.
And that mistake also stops the banks from financing precisely those our society most need to be financed, in order to move forward, namely "the risky" small businesses and entrepreneurs.
What did we do to deserve that?