Monday, March 14, 2016
The crisis exploded because of excessive exposures to AAA rated securities, real estate (Spain), loan to sovereigns (Greece) and short-term loans to banks (Iceland). They all one thing in common, namely that banks were required by regulators to hold very very little capital against these assets, and so banks could leverage very very much their equity with these assets, meaning that banks could expect to earn very very high risk adjusted returns on equity for these assets.
Had banks been required to hold the same level of capital against all assets, other crisis could have happened, but not one as large as the one in 2007/08.
So how much have you read about the problems related to the distortions produced by the risk weighted capital requirements in the allocation of credit to the real economy? Probably nothing!
Why? There are many explanations to that but, one of the most important, is that there is much more political interest in blaming bad bankers than laying it on good regulators.
Is this a problem?
Yes, those regulations are still in place and so could still lead banks to create similar dangerously large exposures to something perceived or deemed safe.
And since that still favors The Safe over The Risky, those who could most help us get our economies moving again, the SMEs and the entrepreneurs, have a lousy access to bank credit.
Right now banks are not financing the risky future, they are just refinancing the safer past, that which might soon turn risky, because of excessive financing.