Monday, November 14, 2016

Ms. Elizabeth Warren, the banking system is rigged; foremost in favor of the State and banks, and against the young.

Senator Elizabeth Warren, in remarks given to AFL-CIO council on November 10, while trying to explain what lay behind the election of Donald Trump as president said: “Working families across this country are deeply frustrated about an economy and a government that doesn’t work for them. Exit polling on Tuesday found that 72 percent of voters believe that, quote, ‘the American economy is rigged to advantage the rich and powerful.’ The polls also made clear that the economy was the top issue on voters’ minds. Americans are angry with a federal government that works for the rich and powerful and that leaves everyone else in the dirt.”

Yes, the American economy is rigged, but at least with respect to the bank system, not exactly in the way most believe it is. I explain.

For the purposes of setting the capital requirements for banks, regulators, the Basel Committee, have decided, among others, on the following risk weights:

The sovereign (the central government and its bureaucrats) = 0%
Those rated AAA to AA (the AAArisktocracy) = 20%
Houses = 35%
The not rated, like citizen’s and SMEs = 100%
Those rated as extremely risky, like below BB-, = 150%

A lower risk weight results in having to hold less capital (equity); 
That means bank can leverage their equity more; 
That results in banks earning higher risk adjusted returns on equity; 
That therefore means banks will lend much more to what has a low capital requirements; 

In this case that means banks will lend much more than they would otherwise have done, to what is perceived, decreed or concocted as safe; and much less than the would otherwise have done to what is ex ante perceived as risky.

And so Yes! The banking system is rigged.

First and foremost, rigged in favor of the State; suggesting that when government bureaucrats use bank credit they do so much more efficiently, and generate much less risk, than if similar credit is used by the private sector/We the People.

Then rigged in favour of the banks; because being allowed to make the highest risk adjusted returns on equity on what is perceived as safe, must be a dream come true for all those bankers, described by Mark Twain, as wanting to lend you the umbrella when the sun was out, and wanting it back as soon it looked it could rain

Rigged in favor of the AAArisktocracy; by believing that a few human fallible credit rating agencies will always get it right, and that credit ratings, based on an ex ante very low risk perception, guarantees a very low ex post risk.

Rigged in favour of those buying houses, for instance basements were unemployed youth can live with their parents.

It is rigged against We the (risky) People

It is rigged against SMEs and entrepreneurs; negating the “risky” credit opportunities, it is a major driver of inequality.

It is foremost rigged against the young; because it makes banks refinance more their parents “safer” past and present, than their “riskier” future.

And all that risk aversion... in the Home of the Brave. America would never ever have become what it is, with this senseless bank regulation. Risk-taking is the oxygen of all development. 

God make us daring!