Monday, September 5, 2016

The Basel Committee imagined a theorem that allowed it to intervene in the allocation of bank credit

In Deirdre Nansen McCloskey’s “Bourgeois Equality” we read:

“Economists collect Nobel Prizes for imagining in existence theorems of this or that ‘market failure’, which they never show are important enough to justify utopian schemes of state intervention” 

Precisely what I argue is also the case when: 

Regulators imagined that what was perceived ex ante as risky, was risky for banks. 

With this theorem they justified imposing risk weighted capital requirements for banks; more perceived risk more capital – less risk less capital. 

Or, with this theorem they gave in to the banks’ wishes of being able to leverage their capital much more; like if the asset had an AAA to AA rating, a mindboggling 62.5 times to 1 

They did so without even trying in the least to ascertain if that theorem was true; something which it is definitely not. 

What are risky for the bank system are unexpected events; and that which precisely because it is perceived as safe, could,generate dangerous excessive financial exposures. 

That regulation distorted completely the allocation of bank credit to the real market; but perhaps that was what some statist regulators wanted, since the risk weights they assigned to We the People was 100%, while that of the Sovereign was set at 0%.

PS. Here an aide memoire on some of that regulatory monstrosity