Bank supervisors/examiners as well as the banks’ own risk managers, find themselves between a rock and a hard place.
Note: This post is based on to “How Bank Oversight Failed: The Economy Changed, Regulators Didn’t” by Andrew Ackerman, Angel Au-Yeung and Hannah Miao, WSJ March 24, 2023, but it could refer to many of the articles currently being published on #SVB,
“If examiners thought the bank should prepare for a scenario such as rapid growth, soaring interest rates and abrupt loss of deposits, as later happened to SVB, examiners would be hobbled by the absence of explicit regulatory guidance calling for such preparations”
Worse! They would be hobbled by the presence of explicit regulatory guidance, namely the risk weighted bank capital/equity requirements (RWCR) based on perceived credit risks, not on misperceived risks, unexpected events or ignored risks, such as duration risk. To top it up, these requirements are based on that what’s perceived as risky is more dangerous to bank systems than what’s perceived.
That places the supervisors/examiners and the banks’ own risk managers between a rock and a hard place.
What bank risk manager, wanting to keep his job and be paid a bonus, would currently want to address his Board of Directors with: “Our model, because of too many assets we have perceived as safe could now turn out risky, indicates that you have to raise a substantial amount of equity”?
What supervisors/examiners, would dare to argue that the Basel Committee and their other superiors, have not the faintest idea of how to regulate banks? Among other because they all clearly missed their lectures on conditional probabilities?
“Banking regulators will spend months, if not years, getting to the bottom of what happened.” Of course, they will. They do not want the world to understand what hair-raising regulatory mistake they committed.
The GFC, 2008 crisis, was much caused by the excessive exposures US investment banks and European banks held of AAA to AA rated mortgage-backed securities (MBS), against which they were required by Basel II to hold only 1.6% in capital/equity.
Basel III introduced new capital and liquidity requirements but let the RWCR intact, which meant that on the margin, there were it most counts, the distortive effect of these were even strengthened. (Think of the “Drowning pool”)
What if an investment bank had reported to a little old lady her long-term bond holdings based on value on maturity (as banks are allowed to do), and she then suffered unexpected unaffordable losses when selling these, would it be fined? Just asking.
And what about all journalists? Will they admit they were duped/lulled into a false sense of security by reporting on strong and satisfactory levels of capital based on the naïve assumption that the risk weighted assets reported (RWA), were a valid measure of the banks' risk exposure.
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