Current bank regulations present two absolute inexplicable lunacies, which can only be justified if you are a communist

Starting 1988, with the G10 Basel Accord of which the US is a signatory, bank regulators, in Basel I, for the purposes of establishing how much capital (equity) banks need to hold against assets, declared the following credit-risk-weights: Government Zero percent; citizens, or their SMEs, 100 percent.

Knowing that only the citizens are the real back up of any government, and that governments can be very creative dishonoring their debt, for instance by means of inflation… that is an absolute inexplicable lunacy... unless you’re a communist of course.

Worse yet. Those risk weights cause banks to lend more and at lower relative rates to the government than to the citizens and to their SMEs. And that would imply that government bureaucrats are more productive using bank credit than the citizens, or their SMEs.

In other words, the credit-risk-weights de facto simultaneously translates into bank-credit-productivity-weights of 100% for government bureaucrats and zero percent for citizens, or for their SMEs. 

And so the question lingers is the Basel Committee a tool for communists to infiltrate the financial system of the free world? It would certainly seem so.

Here: The confessions of an ideologue.

PS. Here my letter to the Financial Stability Board

The problem with peer reviews is quite often the peers.

Peer review is the evaluation of work by one or more people of similar competence to the producers of the work (peers). It constitutes a form of self-regulation by qualified members of a profession within the relevant field. 

Today, August 27, the Financial Stability Board (FSB) released its peer review of the United States. In it we read: 

“The Dodd-Frank Wall Street Reform and Consumer Protection Act addressed the systemic risk oversight gap in the US regulatory framework by creating the Financial Stability Oversight Council (FSOC)… The peer review found that good progress has been made to date by the FSOC to establish systemic oversight arrangements and made some recommendations to further enhance its effectiveness. These involve:... providing a more in-depth and holistic analysis of systemic risks to financial stability;”... and; 

“The architecture for insurance supervision in the US, characterised by the multiplicity of state regulators, the absence of federal regulatory powers to promote greater regulatory uniformity and the limited rights to pre-empt state law, constrains the ability of the US to ensure regulatory uniformity in the insurance sector. Given the drawbacks of the current regulatory set-up, the US authorities should consider whether migration towards a more federal and streamlined structure may be a more effective means of achieving greater regulatory uniformity.”

My problem is that these regulators, and their peers, cannot get it into their heads to understand that the origin of the most dangerous systemic risks to the system might precisely be themselves and their uniform regulations.

For example, in the case of the Basel Committee's bank regulations: 

What a regulator could absolutely not do, if he knew what he was doing, was what they did in Basel II and are doing in Basel III, which is allowing for much lower capital requirements for assets perceived as “absolutely not risky”. In other words the regulators are 180° wrong. In other words they are making sure that the bank crises, whenever these occur, as a result of something ex ante considered to be “absolutely safe” turning out to be risky ex post, will be bigger than ever. 

Frankly are these peers willing to hold that their colleagues have been and still are 180° wrong? I don’t think so!

When facing a cliff… are you sure you want to go forward?

This economy did not collapse because of lack of stimulus, it collapsed because of bad regulations that gave banks too big incentives to acquire huge exposures with some of “The Infallible”, helping to make the not-risky risky, and by banks not wanting to hold exposures to “The Risky”, like to small businesses and entrepreneurs.

And since those basic bank regulation principles have not yet been changed one iota, I simply do not understand why any sort of stimulus package should be able to turn around the economy in a sustainable way, and that is why I find the whole discussions in the US about the fiscal cliff, although interesting quite irrelevant. 

And this cliff debate also makes me remember some politician somewhere, gloriously stating: “21 years ago, we were on the edge of the abyss, and we stepped forward”.

PS. That politician was Carlos Andres Perez, president of Venezuela

Our bank regulators, unwittingly, committed an act of high treason

There can hardly be a more insidious way to destroy a nation than to make its banking system more risk averse than what it normally is. 

And that our current bank regulators did, unwittingly, with Basel II, when they allowed the banks to hold so much less capital when lending to “The Infallible” than when lending to “The Risky”… and therefore to be able to earn so much more return on their equity when lending to “The Infallible” than when lending to “The Risky”… and therefore also to be able to pay the bankers so much higher bonuses when lending to “The Infallible” than when lending to “The Risky”. Doing so the regulators effectively "bribed" the banks to lend only to “The Infallible” and to abandon all bank lending to “The Risky”.

And that, of course, caused the bank exposures to “The Infallible”, those ex-ante perceived as absolutely not risky, precisely those to whom excessive lending has always caused all major bank crisis when they, ex-post, turn out to be “The Risky”, to explode as never before. 

Just one piece of evidence: Basel II, approved by G10 in June 2004, allowed the banks to lend to a sovereign rated like Greece holding only 1.6 percent of quite loosely defined bank capital (equity) while, if lending to a Greek small business or entrepreneur, they needed to hold 8 percent in capital. That allowed the banks to leverage their capital 62.5 times when lending to the Greek sovereign but only 12.5 times when lending to a Greek small business or entrepreneur. That, if the bank could make a net risk and cost adjusted margin of 1 percent when lending to either the sovereign the small business or the entrepreneur, meant the bank could expect to earn 62.5 percent on capital per year when lending to the Greek sovereign, compared to only 12.5 percent when lending to a Greek small business or entrepreneur. 

And of course the Greek sovereign received too much bank loans. And of course the Greek small business and entrepreneur received too little bank loans. 

And now when the Greek sovereign, as s direct result of this is in the absolute doldrums it cannot receive any more loans from banks, and Greek small businesses and entrepreneurs, those Greece most need to help it out of its current predicaments, are completely locked out from access to bank credit. 

I tell you, if I thought bank regulators had done this on purpose, to Greece, Europe and America, I would suggest shooting them… no doubt.

But what I cannot comprehend is how we can allow regulators who unwittingly were so dumb, to keep on regulating, to give us Basel III, which, with now also liquidity requirements based on ex-ante perceived risk, can only make it all so much worse. 

A nation is built and thrives on risk-taking. “God make us daring!” The moment the past, what has been built, “The Infallible”, becomes more valuable to its society than the future, what can be built, “The Risky”, and excessive risk adverseness sets in, the nation stalls and falls. It is as simple as that.

Congressmen of America and parliamentarians of Europe, here are two “Even though” questions on current bank regulations

Even though, those who are perceived as risky, let us, for lack of a better term, call them “The Risky”, get smaller bank loans, must pay higher interest rates, and accept stricter terms, all in line with Mark Twain’s perception of bankers, “he who lends you umbrella when the sun is out and wants it back when it looks it is going to rain”, and have never ever been the cause of a major bank crisis…should they have their access to bank credit made even more difficult by the bank regulators? 

Even though, those who are perceived as absolutely not risky, let us, for lack of a better term, call them “The Infallible”, get huge bank loans, ate very low interest rates, and with very soft terms, all in line with Mark Twain’s perception of bankers, “he who lends you umbrella when the sun is out and wants it back when it looks it is going to rain”, and have never ever been the cause of a major bank crisis…should they have their access to bank credit made even more easier by the bank regulators? 

If you respond “Yes!” to the two previous questions, you're fine and dandy with what the current bank regulators, like the Basel Committee for Banking Supervision and the Financial Stability Board are doing. If not, you better have a closer look at what’s up. I tell you, you will be surprised and extremely upset.

Another letter in The Washington Post: Handcuffed by a triple-A rating

Handcuffed by a triple-A rating

The headline on Mohamed El-Erian's Jan. 1 op-ed asked, "Who will save the triple-A rating?" This makes for a good opportunity to remind everyone that the United States, and the Western world, did not become what they are by sticking to the super-safe. They did it by allowing their risk-takers to take risks. A triple-A credit rating is a result, not a precondition.

If the United States is going to lose its triple-A rating because it is taking the kind of risks that are necessary to make the wheels of its development move forward, creating jobs for our grandchildren, that should be welcome. But if it is going to continue the current pattern, set out by loony bank regulators, of blindly avoiding perceived default risks and dangerously overcrowding the safe havens, then it is lost.

The expert financiers worrying about a triple-A rating are also navel-gazing. Much more important than a triple-A for the United States is the fact that this country is, by far, the foremost military power in the world. Lose that supremacy and all hell breaks loose. Keep it and a BBB rating could do.

Washington Post

My letters in the Washington Post on bank regulations:

September 6, 2007: Factors in the Financial Storm
June 20, 2008: An Aspect of the Bubble
December 27, 2009: Another 'worst': Faulty bank regulation
January 6, 2012: Handcuffed by a triple-A rating
May 1, 2013: An American approach to banking
December 23, 2014: Let the market rule on risky trades
November 11, 2015: Reverse-mortgaging the future
August 9, 2016: Banks, regulators and risk
April 16, 2017: When banks play it too safe
July 11, 2018: There is another tariff war that is being dangerously ignored.

Is the USA now a submerging country?

"Are America's Best Days Behind Us?" by Fareed Zakaria in Time of March 3, 2011

Risk taking is the soul and essence of a country emerging, growing and moving forward. Risk-aversion is the natural reflection of a country that has had enough.

When the USA, which proudly refers to itself as “the land of the free and the home of the brave”, decided that their banks, their frontline of risk-takers, were going to be allowed to have immensely less capital when dealing with what was perceived as “not risky”, like what’s dressed up in triple-A ratings or lending to the government, than when lending to their small businesses and entrepreneurs, then the USA called it quits, and placed itself on the slippery slope of going down and down… fast or slow… but submerging.

The first thing the banks did was then to obediently go and massively enter the triple-A rated waters, where the sharks of the real economy where waiting for them… If that is not submerging what is?