#AI ChatGPT: If young and wanting a strong and healthy economy when you grow old, are current risk weighted bank capital requirements what you need?

I asked ChatGPT:

"If young and want to make sure that when old the economy is sufficiently strong and healthy to pay you decent pensions and social security, would you agree with bank regulators who, with risk weighted bank capital requirements, prefer your banks, over the years, to hold much more “safe” government debt and residential mortgages, than “risky” loans to small businesses and entrepreneurs?"

ChatGPT answered:

"Bank regulators often use risk-weighted capital requirements to ensure the stability and soundness of the banking system. These requirements aim to align capital levels with the perceived risk of different types of assets. Under risk-weighted capital requirements, "safe" assets like government debt and residential mortgages typically receive lower risk weights, while "risky" assets such as loans to small businesses and entrepreneurs receive higher risk weights.

The preference for banks to hold a larger proportion of "safe" assets, such as government debt and residential mortgages, can be attributed to their lower perceived risk and potential to provide stability to the financial system. These assets are generally considered less volatile and more liquid, which can enhance the resilience of banks during economic downturns.

However, it is important to note that risk-weighted capital requirements are not without their criticisms. Critics argue that these requirements can create distortions and unintended consequences. For instance, an excessive focus on risk weights for different asset classes can lead to a concentration of lending in certain sectors, potentially reducing the availability of credit to small businesses and entrepreneurs, which are considered riskier but vital for economic growth.

Balancing the need for financial stability and the promotion of economic growth is a key challenge for regulators. Recognizing the importance of small businesses and entrepreneurship in driving innovation and economic development, some regulators have taken steps to address the potential negative impacts of risk-weighted capital requirements on lending to these sectors.

In conclusion, while the preference for banks to hold more "safe" assets like government debt and residential mortgages under risk-weighted capital requirements aims to ensure financial stability, it is crucial to strike a balance that supports both stability and the necessary provision of credit to small businesses and entrepreneurs. Regulatory frameworks should continuously evolve to address these challenges and promote a robust and inclusive economy."

Note: The answers are copied exactly from those given to me by ChatGPT and Grok

PS. Please free us from imprudent risk aversion and give us some prudent risk-taking.

Here my many other questions to ChatGPT – Grok on bank regulations

ECB, swap the European sovereign bonds you acquired with QEs, for fresh bank equity in European private banks.

My heart goes out to the so many who are unemployed in Europe, as a direct consequence of banks not lending to SMEs and entrepreneurs, this a direct consequence of being required to hold much more of very scarce bank equity when doing so, than when lending to the “infallible sovereigns” or to the AAArisktocracy.

My heart goes out to pension funds, widows and orphans, who do not find a “safe” place for their investment and savings because, as a direct consequence of those same bank equity requirements, they must now compete with banks eager to access debt issued by the “infallible sovereigns” or by the AAArisktocracy.

And growth in Europe is so dismal that even those classified as “infallible sovereigns”, are offering negative rates, which of course is a “haircut”.

I have no idea whether it would be politically viable but, if I was the ECB, and or a government in Europe, the following is the proposal I would put on the table for its urgent discussion:

Assign the same 100% risk weight to all bank assets, so as to allow banks to allocate credit efficiently to the European real economies. 

That would signify an 8 percent equity requirement for all bank assets, which would open up a very significant need for new bank equity.

Let the ECB temporarily fill that hole by subscribing bank equity, paying with the sovereign bonds it has acquired as a consequence of QEs.

In due time ECB would resell those bank shares to the markets. While these shares are in possession of ECB, it will refrain from exercising any voting rights.

Banks can do whatever they want with those bonds… but since holding sovereign bonds would now require them to have 8 percent in equity we can safely assume they would resell these as well as other sovereign bonds they had, to pension funds and widows and orphans.

Banks would as a consequence immediately be able to look again at credit request from the tough "risky" risk takers Europe needs in order to have a future. Enough with not financing the future and just refinancing history J

Bankers, having then to service the dividend aspirations of much more equity, could of course see their bonuses slightly constrained J

And I guess that adequately capitalizing banks, is of some interest not only of those sovereigns in the periphery J

What would happen to current market value of bank shares? We do not know, but perhaps their dramatically increased safety would more than compensate for their much lower allowed leverage, and prices could even go up. Who knows, perhaps even pension funds, widows and orphans could become buyers of European bank shares J

Western world... listen!

God make us daring!

Or do like Chile did!

We “the real economy” would appreciate this:

That some banks restructure their business into a much less risky operation so as to be able to attract shareholders that appreciate much less risk, like widows and orphans, pension funds and insurance companies and are therefore satisfied with lower returns. 

That could be done by banks by for instance voluntarily agree to hold 15 percent in capital against all of their assets, with none of that horrendous risk differentiation that so much distorts bank lending, by discriminating specially against those “risky” not so risky for banks, businesses and entrepreneurs that try to build an economic future on the margin of the real economy.

And the government, and the FDIC, should be very appreciative of such an evolution, and perhaps should consider giving special long term tax exemptions to any new capital raised for these too-strong-to-fail banks... and that by definition will have a lower return on equity.

If $500bn of fresh bank capital was raised, with that 15 percent capital against all assets, that would leave room for $3 trillion of new bank credit. 

And we, “the real economy”, would certainly very much welcome the managers and the shareholders of the banks, taking a much smaller bite out of us.