ECB, IMF: Unbelievable, Greece’s “Memorandum on Economic & Financial Policies” does not include what Greece most needs

For more than a decade and still at this particular moment any European bank, including Greek banks, has been required to hold much more equity when lending to any Greek small business or entrepreneur, than when lending to any European sovereign or European corporation that possesses a good credit rating. 

And therefore European and Greek banks, scarce of equity, are not lending sufficiently to Greek small businesses or entrepreneurs… nor for that matter to other European small businesses or entrepreneurs.

And anyone who believes Greece (and Europe) can be pulled out of its current problems, by not giving fair access to its small businesses or entrepreneurs, has no idea of what goes on in the real economy. 

If there is something Greece (and Europe) needs, urgently, is to get rid of those odiously discriminating risk adverse equity requirements, those which have banks not financing the risky future any longer, but trampling stale water, only refinancing the supposedly safer past.

“A ship in harbor is safe, but that is not what ships are for.” John Augustus Shedd, 1850-1926 

God make us daring!

PS. In relation to this you might be interested in: “Who did Europe in!”

PS. Here is a more complete explanation of what is wrong.

PS. Here is an alternative action plan for the ECB.

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!

Scene 6 on the crazy reality lived while “Banking in times of the Basel Committee”

Jr. Credit Officer Martin: “But Sir, how can we put this 30 years, 11 percent, lousily awarded mortgage into a security that aspires an AAA rating?” 

Bank President Wally: “Easy, let me explain it to you Martin. To put a proper AAA quality mortgage, with a proper interest rate into that security, would be absolutely useless, as it would generate no profits for us. But, if we put that very bad mortgage you refer to in a security, and manage to get an AAA rating for it, then we can resell it as earning solely a six percent return… and that would mean an instant profit to be share among us all of $210.000. Irresistible eh?” 

Jr. Credit Officer Martin: “But Sir, would not the bankers find out how bad these AAA rated securities were?” 

Bank President Wally: “Dear Martin, when you are allowed, by your regulator, to leverage your equity more than 60 times, only because an AAA to AA rating is present, and which means that if you believe you can make a 1 percent margin means you expect a 60 percent return on your equity, you do not make a lot of questions. You see, if the ratings only go down to the range of A+ to A, then banks can only leverage those securities less than 25 times. Imagine from more than 60 to less than 25!...

In fact Martin, it is the European banks and our US investment banks who are demanding these AAA securities so much that frankly we have to cut corners… don’t forget that we are a service company… and we do what our clients wants us to do... hi-hi-hi!”

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Pope Francis, please go and explain “The Parable of Talents” to the members of the Basel Committee

At the European Parliament, Pope Francis spoke of a need to reinvigorate Europe, describing the continent as a "grandmother, no longer fertile and vibrant" and saying it risked "slowly losing its own soul".

"The great ideas which once inspired Europe seem to have lost their attraction, only to be replaced by the bureaucratic technicalities of its institutions," he said.

Indeed, but what else can you expect when bank regulators bureaucrats instruct banks not to lend to what seems "risky", that which most often includes the new and the future. And that they do by allowing banks to leverage immensely their equity, as long as they keep to what’s seems absolutely safe, that which most often includes the old and the history.

Had these regulations been in place earlier, Europe would not have become “a beacon of civilization” as Pope Francis believes it still is. Now it is with sadness we see regulators turning out its lights.

Next time Pope Francis would do better going to the Basel in order to explain The Parable of Talents to the members of the Basel Committee, those who have now castrated the European banks.

Lights are being turned out in Europe

PS. And Pope Francis could also remind regulators of Pope John Paul II saying: 

Our hearts ring out with the words of Jesus when one day, after speaking to the crowds from Simon's boat, he invited the Apostle to "put out into the deep" for a catch: "Duc in altum" (Lk 5:4). Peter and his first companions trusted Christ's words, and cast the nets. "When they had done this, they caught a great number of fish" (Lk 5:6).

God make us daring!

PS. Here my letter to the Financial Stability Board

I am sure that for Europe’s young unemployed, all 123 European banks failed EBA’s and ECB’s stress tests… dramatically.

So now the European Banking Authority (EBA) has announce the stress test of 123 European banks… and we are informed that 12 failed. Bullshit! They all have failed. 

For instance, ECB's Vitor Constancio says “the vast majority of banks proved resilient”… and I just have to ask him… What’s good about a resilient bank that completely fails to intermediate credit correctly? ... or, as John Augustus Shedd (1850-1926) so well phrased it: “A ship in harbor is safe, but that is not what ships are for.”

It is not what’s on the balance sheets of the banks of Europe that should most concern us… it is what has been condemned by bank regulators from being on the balance sheets of banks in Europe that should really make us tremble… namely all the loans to medium and small businesses, entrepreneurs and start-ups. 

And that so extremely risky prohibition to take risks, that which has effectively castrated European banks, was imposed by the regulators, by means of their so tragically unwise credit risk weighted capital (meaning equity) requirements for banks.

And, to top it up, that will not make our banks safer in the long term... since there have never ever been major bank crises which have detonated because of excessive exposures to what, ex ante, was perceived as risky, as these have always resulted from excessive bank exposures (against too little bank equity) to what was, ex ante, perceived as absolutely safe.

NOTE: I am a happy husband, father and grandfather, with no scandalous past. 

I have a long and quite successful carrier as a financial and strategic private and public sector consultant and, in 2002-2004, I was an Executive Director at the World Bank. 

I have studied in Sigtuna SHL Sweden, Lund University, IESA Caracas, London Business School and London School of Economics. 

Since 1997 I have published over 800 Op-Eds in some of the most important newspapers in Venezuela. 

I have had many letters and articles on banking regulations published around the world. And few can claim having warned in such precise terms about the impending banking disasters as I did between 1997 and 2007. 

And I stake all my professional reputation, and the loving trust my family has shown me over the years, on the fact that current bank regulators of the Basel Committee, and of the Financial Stability Board, have been wrong. Not a pardonable 15 degrees wrong, but an unpardonable 180 degrees totally wrong.

When stress testing banks in Europe, what is not on the balance sheets, is more important than what is on!

When managing risks, before discussing risk avoidance, one need to establish very clearly what risks one cannot afford not to take.

And, in bank supervision, a risk one cannot afford to take is that of banks allocating credit inefficiently to the real economy.

But since our current crop of bank regulators never ever asked themselves what the purpose of our banks was before regulating these, they never thought about that.

And so they allowed banks to hold much less capital when lending to “the safe”, like to sovereigns”, to the AAAristocracy or to the housing sector, than when lending to “the risky” job creating medium and small businesses, entrepreneurs and start ups.

And that meant banks earn much higher risk adjusted returns on equity when lending to “the safe” than when lending to “the risky”.

And that means the banks do not lend anymore to the “risky”… especially now when the banks are suffering from too little capital… the result of lending too much against too little capital to some “safe” who turned out risky, like Greece.

And that means the real economy is suffering… and our unemployed youth is running the very clear and present danger of becoming a lost generation-

And so when stress testing banks regulators should look at what is not on the balance sheets, which causes real stress in the economy… and so that they better understand what they did and why they should be ashamed of themselves.

By the way, Timothy F. Geithner’s recent book “Stress Test” completely ignores this distortion, which comes to show how little they understood and how little they still understand of what is going on.

“A ship in harbor is safe, but that is not what ships are for” John A Shedd, 1850-1926.

PS. The ECB released a detailed description of the Comprehensive Assessment and, of course it is not comprehensive enough to include what I here have referred to.

PS. The most adverse, the truly frightening scenario, which will NOT be stress tested for, is the what happens if bank regulators keep on distorting the allocation of bank credit as they do now.

Performing the asset quality review of European banks will ECB’s staff have the guts to call out the mistakes of Mario Draghi?

If the European banks’ asset quality review is going to serve any real purpose, the ECB must dare to question everything.

Foremost that should mean not having to accept at face value those ludicrous low risk-weightings concocted by the neo-Sherriff of Nottingham, the Basel Committee, in order to induce banks to lend more and cheaper to the King John’s of Europe, and to its AAAristocracy; and to lend less to Robin Hood and his small businesses and entrepreneurial friends… while arguing all the time that this regulatory nonsense would make banks safer.

And so, in its review, ECB needs to identify the risk of all excessive exposures to any “absolutely safe assets”, like of the loans to the “infallible sovereigns”. 

And ECB also needs to identify all those really productive European “risky” bank assets, like loans to small businesses and start-ups, and that should have been on bank balances, but unfortunately are not... only because these have basically been prohibited by the regulators senseless risk adverse risk-weighted capital requirements.

But Mario Draghi, the current President of the ECB, was also for many years the chair of the Financial Stability Board; and is therefore very much to blame for these very wrong incentives given to the banks… those that signified that banks could earn much much higher risk-adjusted returns on their equity when lending to "The Infallible" than when lending to "The Risky".

And so do you really think ECB's staff  will dare get down to the truth? Even if that truth implies their ECB’s boss credentials are not good? Or will they still try to leave Europe in blissful ignorance of why Europe is going down, down, down... as it is giving the incentives to avoid keeping taking the risks which made it into what it is.