Let us tell the story of the Basel Committee’s risk weighted capital requirements for banks this way:

This happened during a meeting of the Basel Committee for Banking Supervision

Q. Colleagues, how on earth can we stop banks from failing? 

A. Well they must avoid taking risks?

Q. Absolutely! But how do we stop them from taking risks?

A. Perhaps by giving them great incentives to make their profits where it is safe?

Q. Sounds great! Any idea how?

A. Well we could allow them to leverage their capital much more when lending to what is safe than when lending to what is risky.

Q. How would that help?

A. Well then the banks could obtain higher risk adjusted rates of return when lending to what is safe than when lending to what is risky.

Q. But, could that not distort the allocation of credit to the real economy?

A. Oh that is not our problem. We're just here to make banks safe. 

Q. But, what if something perceived as safe turns out to be risky?

A. Don’t be so negative. We'll deal with that later if it ever happens.

Q. But could not someone argue we're introducing a regulatory discrimination against The Risky?

A. Who cares? The sovereigns will be more than happy if we give it a zero percent risk weighting. The banks, making their best profits on what is safe, will only have their wettest wet dreams realized. And, the risky, the SMEs and entrepreneurs, they have no voice… hey they are not even invited to the World Economic Forum at Davos… there we only meet the AAArisktocracy.

Q. Dear colleague, you have convinced all of us… let us go for it. By the way, what's your name?

A. Chauncey Gardiner, Sir

Mario Draghi and his colleagues might all just be Chauncey Gardiners too :-( 

IMF & World Bank Spring Meetings: Time again for finance ministers not daring to ask bank regulators THE QUESTION

Dear regulator

Because of your risk weighted capital requirements, banks are allowed to hold less capital against assets that are perceived as safe than against assets perceived as risky.

That means of course that banks can leverage equity more with assets perceived as safe than with assets perceived as risky.

That means of course that banks can obtain higher expected risk adjusted returns on equity with assets perceived as safe than with assets perceived as risky.

So here is THE QUESTION:

Does that not distort the allocation of bank credit to the real economy, causing banks to lend way too much to those perceived, decreed or even concocted as safe, and way too little to those perceived as risky, like SMEs and entrepreneurs?

PS. Where did all our current bank regulators, those who are writing up Basel I, Basel II, Basel 2.5, Basel III or what have you, study their Bank Regulations 101? Who checks the CVs of these appointees, or do they appoint themselves? Might they just have dropped in like any Chauncey Gardiner?

Our economies are bloated by QEs, low interests and other stimuli, and the lack of real risk-taking.

Tarps, fiscal deficits, QEs and minimal interest rates, in an economy where regulators have by means of risk-weighted equity requirements de facto prohibited banks to take real risks, like lending to SMEs and entrepreneurs, only to take on false risks, like leveraging too much on what is "safe", like with government debt and residential mortgages, has created a bloated economy full of assets with inflated values... and helped finance the permanence of inefficiencies that should have been long gone.

The economy now needs to fart, urgently, but boy it is going to be embarrassing smelly… and painful!

That deflation is not curable with factory produced inflation but only with the type of sturdy growth that can justify the relative values of all assets. You do not live on existing assets alone.

You cannot grow muscles by staying in bed just eating fats and carbs... you need exercise and proteins... even if "risky" 

Way back I had a feeling this had to come sooner or later. 

PS. Sometimes I feel sort of like a Chance the gardener :-)

But who knows, Mario Draghi and his colleagues might all just be Chauncey Gardiners too :-( 

And what could lead to less inequality: to inflate the value of assets that are already owned or to try to create new assets?

A small question about bank regulators

In relation to bank regulations I have frequently found myself in need to comment that never ever has a major bank crisis resulted from excessive exposure to those perceived as “risky” (consult your Mark Twain), these have always resulted from excessive exposures to what was ex ante erroneously considered as “absolutely-not-risky”. 

But, between us... are not bank regulators supposed to know this very basic stuff? 

Where did all our current bank regulators, those who are writing up Basel I, Basel II, Basel 2.5, Basel III or what have you, study their Bank Regulations 101? Who checks the CVs of these appointees, or do they appoint themselves? Might they just have dropped in like any Chauncey Gardiner?

Any Gardener: "If you do not like weeds use pesticide on them and fertilize the flowers" 

Basel Committee: "Ah, smart! If we want our banks to avoid risks, we need to pay them a lot in return on their equity to make them grow us the not-risks we so much desire"