Banks regulators believe what’s rated AAA, is more dangerous to the banking system than what’s rated below BB-… Really?

Bank regulators, when trying to make our banks safe, decided that the risk weight for AAA rated assets, a rating described as “prime”, was to be 20%. That, since the basic capital requirement in Basel II was 8 percent, meant that banks needed to hold 1.6 percent in capital (equity) against those assets; and could leverage their equity 62.5 times to 1 with these assets. 

For assets rated below BB_ though, ratings described as moving from “highly speculative”, through “extremely speculative” and up to “default imminent”, the risk weight was set at 150 percent. And that, with Basel II’s basic 8 percent, meant that banks needed to hold 12 percent in capital against such assets, and which allowed banks to only leverage about 8.4 times to 1.

But let me ask all of you. What do you think can create those kind of excessive exposures that could endanger the stability of our banking system; exposures to what ex ante was thought to be AAA but that ex post surprised banks by being very risky, or exposures to what was rated below BB- and actually turned out to be very risky?

I hear you… so what did we do to deserve such bad bank regulators?