Your Honor, can I sue the bank regulators?

Your Honor, 

My small riskier less creditworthy business always got less credit and paid higher interest rates than the more creditworthy, and that was ok. 

But the regulators, with their risk weighted bank capital requirements, also decreed it to be less worthy of credit and, since it now has to compensate the banks for these not being able to leverage as much their capital/equity as much as they can with other “safer” assets, they made it get even less credit and pay even higher interests. 

Can I sue them?

IMF does still not understand how the risk weighted capital requirements for banks distort. Why? Groupthink?

IMF’s Global Financial Stability Report 2017 on page 43 and 44 Box 1.2. “Regulatory Reform at a Crossroads” states:

Finalization of the Basel III package of reforms— the revision of the “standardized” approach to the calculation of risk-weighted assets and limits on the use of internal models to assess risks—appears to have faltered… The outstanding challenge is to reconcile views on the weight to attach to each element, particularly to the balance between reliance on internal models and constraint through the calibration of the floor [based on a standardized approach]”

So regulators wants to reconcile between:

Use of internal risk models, which is basically similar to allowing Volkswagen to calculate their own carbon emissions. 

Using the standardized approach designed by regulators and which included, for instance risk weights of only 20% for what is perceived very safe, like what’s AAA rated, and which precisely because of that perception can lead banks to build up dangerously large exposures; and a 150% risk weight for what is rated below BB-, something to which banks would never dream to expose their balance sheets much to.

We all know that minus times minus leads to a positive number but does reconciling one craziness with another craziness lead to a sane regulation. NO!

Box 1.2 also includes: “countries outside the central standards-setting bodies [in particular emerging markets]…rely heavily on a strong global standard to level the playing field and support financial stability”

Question: Does allowing the safe to have better access than usual and the risky less than usual really signify to “level the playing field”?

Box 1.2 concluding states: “Completion of the reforms is vital to address previously identified fault lines and thus ensure that the global financial system is safe and can promote economic activity and growth.”

Congratulations! I believe this is the first time I have read from somebody close to the regulators, as IMF is, that besides “safe and resilient”, the banking system needs also to “promote economic activity and growth.”

It is truly sad this comes at such a late stage. Anyone wanting banks to promote economic activity and growth, would never have accepted the risk weighted capital requirements for banks, as these dangerously distorts the allocation of credit to the real economy. 

So clearly, IMF still has much internal analysis to do before they get there. I hope its groupthink allows it.

Looking to level the playing field for banks to compete, regulators unleveled real economies’ access to bank credit

I refer to Charles Goodhart’s “The Basel Committee on BankingSupervision: A History of the early years 1974-1997” 2012, Cambridge Press.

Goodhart frequently mentions the importance given by bank regulators “towards preserving and, where necessary, enhancing national prudential standards and towards removing competitive inequalities arising from different regulatory requirements” (p.175)

But since the need for an efficient allocation of bank credit to the real economy was never in any way shape or form on the regulators’ agenda, while doing so they came up with risk weighted capital requirements for banks; which guaranteed unleveling the playing-field for all bank borrowers, by favoring the “safe” in detriment of the “risky”.

Goodman (p.195) writes “the risk weights to be applied to the various groups of assets were ad-hoc and broad-brush, based on subjective (and political judgement), not on any empirical studies. Their application soon led to serious distortions in bank bank asset portfolios that undermined Basel I. There was little or no discussion at the time about the impact that the Accord might or should have on bank behavior. The need was just to achieve the two desiderata: higher capital ratios and a level playing field” (p.195) 

And since the need for an efficient allocation of bank credit to the real economy was never, in any way shape or form part of the regulators’ agenda, they came up with risk weighted capital requirements for banks; which guaranteed and unlevel-playing-field for all bank borrowers, by favoring the “safe” in detriment of the “risky”. And with respect to the health and growth of the real economy, that was as imprudent as imprudent can be.

Goodman opines “any simple approach would tend to put into common groupings (or ‘buckets’) assets/liabilities that were in many respects dissimilar, thereby leading to anomalies, distortions and ‘gaming’” (p.158). I do not agree. It was the existence of different buckets, which received different capital requirements treatments, that led to distortions and gaming. Any assets might have arrived to a specific bucket by means of gaming, but once in that bucket, within that bucket, there were no further distortions as the risk weights were all the same.

In an undisturbed real economy, there is only one bucket, in which all have to live and fight for survival.

And, who is Elizabeth Warren to speak about “The system is rigged”?

If there is something that you can really accuse the financial system of being rigged by, that are the capital requirements for banks based on perceived risks. These requirements favor immensely those already being favored by the markets, namely those borrowers perceived as “The Infallible”, and thereby discriminate immensely against those already being discriminated against by the markets, namely those borrowers perceived as “The Risky”, like small businesses and entrepreneurs. 

And that odious discrimination, constitutes a regulatory wedge which only increases the existing the inequalities and reduce the opportunities, as the “The Infallible” are most often the haves, and, the “The Risky”, the not haves. 

And since Elizabeth Warren, having been involved with regulations for such a long time, has not uttered a word against that regulatory discrimination, I am not sure what moral right she has to speak out about “The system is rigged”?

What nonsense is believing in a "level playing field", and then not speaking out against colleagues and regulations un-leveling it? What has regulatory discrimination against those perceived as "risky" to do with "giving everyone a fair shot"? What has this extreme regulatory risk-adverseness to do with the need to "restore the values that built the nation"? Is not just betting on The Infallible "betting against the American people"?

She said in her recent Democratic Convention speech: “I talk to small business owners all across Massachusetts. Not one of them—not one—made big bucks from the risky Wall Street bets that brought down our economy.” And I must say: “No, Elizabeth Warren, of course they did not, they were too busy having to pay all that extra interest rates to the banks that the bank regulations caused.” 

She said in her recent Democratic Convention speech: “We turned adversity into progress because that's what we do” And I must say: “No, Elizabeth Warren, you did not! You were among those many regulators who want to turn progress into risk-adversity! And this, amazingly, in the land of the brave!” 

But, let me be absolutely clear, I could use exactly the same arguments against all those on the other side of the political spectrum who extol the benefits of a free market, but who also keep absolute silence about this dirty regulatory intervention and distortion of the market. And so they should shut up too!

Does this mean I do not support the Consumer Financial Protection Bureau? Of course I support it! Only that I believe that one of that Bureau´s first responsibilities, is to see that those perceived as “risky”, are not also discriminated against by the regulators.

Albert Einstein dixit: “No problem can be solved from the same level of consciousness that created it”