Monday, January 25, 2016

The role of journalists is to be curious. So why aren’t those who cover bank regulations curious? Are they scared?

Even though credit risks were already cleared for banks by means of interest rates and size of exposures, regulators introduced in the 1980s risk weighted capital requirements for banks. These indicated banks needed to hold more capital against assets perceived as risky than against assets perceived as safe. That allowed banks to leverage more with assets perceived as safe than with assets perceived as risky resulting in that banks earned higher expected risk adjusted returns on equity on assets perceived as safe than on assets perceived as risky.

Where not regulators aware of that this introduced serious distortions in the allocation of bank credit to the real economy? And if so, who authorized them to do such a thing?

In Basel I, for the purpose of calculating the risk weighted capital requirements for banks the risk-weight of the sovereigns was set at zero percent while the risk-weight of the private sector that provides the sovereign its strength was set at 100 percent. 

How come? Would this not mean that the access of sovereigns to bank credit would be subsidized by the private sector's loss of access?

In 2004 Basel II set the risk in the private sector at 20 percent for what was rated ‘prime’ AAA to AA; 100 percent for what was unrated, and 150 percent for what was rated ‘highly speculative’ below BB- rated.

This meant that bank regulators considered ‘highly speculative’ below BB- rated to be much more dangerous to banks and the bank system than ‘prime’ AAA to AA rated.

How could expert regulators believe such a thing?

Bank capital is to cover for unexpected losses, and that the regulators acknowledge. 

How then could regulators believe they could use ex-ante perceived expected credit losses to generate an estimate for the unexpected? And to top it up, by definition the safer something is perceived, the larger its potential to cause unexpected losses. And if so should not the capital requirements be 180 degrees in the opposite direction, higher for what is perceived as safe than for what is perceived as risky?

And there are many more questions on this issue a curious reporter should be able to make… but they don’t ask… why? Are they scared for something?