#AI #ChatGPT #Grok: What causes more dangerous distortions: trade tariffs or skewed bank regulations?

I asked ChatGPT: 

"Commercial tariffs distort trade between nations.

Risk weighted bank capital/equity requirements favoring some assets over other, distort the allocation of credit within nations.

Briefly explain what you would consider more dangerous for, e.g., our grandchildren?"

ChatGPT answered:

"Both are harmful, but risk-weighted bank capital requirements could be more dangerous for future generations.

Why? 

Tariffs distort international trade, raising consumer prices and reducing efficiency, but economies can adapt through new trade agreements, innovation, or shifting supply chains.

Distorted credit allocation shapes a nation's long-term economic structure. If banks are incentivized to lend excessively to governments or real estate rather than small businesses and entrepreneurs, economic dynamism weakens. This stifles productivity, innovation, and job creation—directly impacting opportunities for future generations.

While tariffs can be reversed with policy changes, a financial system misallocating credit for decades may entrench inefficiencies that are far harder to undo."

Here’s my original dialogue with ChatGPT on tariffs.

I asked Grok:

"Commercial tariffs distort trade between nations.

Risk weighted bank capital/equity requirements favoring some assets over other, distort the allocation of credit within nations.

Briefly explain what you would consider more dangerous for, e.g., our grandchildren?"

Grok answered: 

"Commercial tariffs distort international trade by artificially raising the cost of imported goods, which can lead to inefficiencies, higher prices, and reduced global economic growth. Over time, this could shrink the overall pie of wealth and opportunity our grandchildren inherit, especially if trade wars escalate and fragment the global economy.

Risk-weighted bank capital requirements, on the other hand, skew credit allocation within nations by incentivizing banks to favor "safer" assets (like government bonds) over riskier ones (like small business loans). This can stifle entrepreneurship, innovation, and economic dynamism, potentially locking in stagnation and concentrating wealth in already-established sectors.

For our grandchildren, the latter might be more dangerous. While tariffs disrupt trade flows, they’re often visible and politically negotiable. Distorted credit allocation is subtler, baked into financial systems, and harder to unwind. It risks creating a sclerotic economy where capital doesn’t reach the innovators and risk-takers who drive long-term growth—leaving future generations with fewer opportunities and a less resilient world. Tariffs might shrink the pie, but credit distortions could rot it from the inside.

Also: Does favoring banks holding public debt over loans to e.g., small businesses and entrepreneurs, promote fiscal insolvency?

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

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

Few things fertilize populism as much as excessive government resources.

Few things fertilize populism as much as excessive government resources.

Sir, I refer to “Populism thrives because people are mad, and also because they’re sad” Charles Lane, Washington Post, August 10, 2023.

Without opining on its arguments, as someone from a nation cursed by centralized oil revenues (Venezuela) I must remind you that few things propel populism, of the good, bad or ugly types, as too much government financial power. 

So let me quote Paul Volcker from his 2018 autobiography “Keeping at it” penned together with Christine Harper: “Assets for which bank capital/equity requirements were nonexistent, were what had the most political support; sovereign credits. A ‘leverage ratio’ discouraged holdings of low-return government securities”. Which, for the risk weighted bank capital requirements of Basel I in 1988, meant decreeing risk weights of: 0% Federal Government – 100% We the People.

That has set the America I admire on a course much different from what its Founding Fathers dreamt of. Neither the US Congress or SCOTUS have ever questioned such regulatory overreach.

I asked ChatGPT – OpenAI: “From a political philosophy’s angle, where would those risk weight most likely fit: Russia, Argentina or the United States?  It answered Russia and Argentina. “Government assets receiving preferential treatment over citizen assets, would not align with the prevailing political philosophy in the United States.”

Sir, has AI got it all wrong?

The more there's in the piñata, the larger it is, the harder will be the fight for its contents, so as to gain access to what can be shared out (against support/votes) to admiring/needing supporters.

Pocas cosas fertilizan populismo y autocracias tanto, como excesivos recursos gubernamentales. Cuanto más en la piñata, más dura la lucha por su contenido, para tener acceso a que compartir, entre admiradores y partidarios, contra su apoyo y sus votos.

@PerKurowski

#AI ChatGPT - OpenAI: Are the risk weighted bank capital requirements some form of populism?

I asked OpenAI:

"Basel Committee, ignoring how it could distort credit allocation, de facto stated: 

'To make your banking system safer, we give you our risk weighted bank capital requirements'

Does that not contain a hefty dose of a populism? One that even confounds the intelligentsia?"

OpenAI answered:

"The statement you mentioned does not appear to contain elements of populism. The Basel Committee on Banking Supervision, an international regulatory body, aims to promote financial stability and strengthen the resilience of the banking system. Risk-weighted bank capital requirements are one of the tools used to achieve this objective.

The implementation of risk-weighted capital requirements is not driven by populism but rather by the need to align capital levels with the riskiness of bank assets. The intention is to ensure that banks hold sufficient capital buffers to absorb potential losses and maintain financial stability.

It is true that the implementation of risk-weighted capital requirements has been a subject of debate and criticism. Critics argue that the approach may have unintended consequences, such as distorting credit allocation or creating incentives for regulatory arbitrage. These concerns are rooted in the complexities and challenges associated with accurately assessing and weighting risks.

However, it is important to note that the Basel Committee comprises experts from central banks and regulatory authorities who work towards the stability and soundness of the banking system. Their decisions and recommendations are based on careful analysis, research, and extensive consultation with industry stakeholders.

The discussions and debates around risk-weighted capital requirements involve perspectives from various experts, including academics, economists, and industry professionals. While differing viewpoints can exist, it is not accurate to label the Basel Committee's efforts as populist or confounding to the intelligentsia.

In the realm of finance and banking regulation, the goal is to strike a balance between risk management, financial stability, and the efficient allocation of credit to support economic growth. This involves considering various factors, including systemic risks, market dynamics, and the long-term sustainability of the financial system."

I asked OpenAI:

"Assets assigned lowest risk, for which bank capital requirements were nonexistent or low, were what had most political support: sovereign credits and home mortgages". Paul Volcker.

Could that not qualify as regulatory populism? 

OpenAI answered:

"The statement made by Paul Volcker highlights a phenomenon where certain asset classes, such as sovereign credits and home mortgages, were assigned lower risk weights and had relatively lower capital requirements compared to other assets. This situation can indeed be seen as an example of regulatory considerations influenced by political and economic factors. However, labeling it as "regulatory populism" requires a more nuanced analysis.

The determination of risk weights and capital requirements involves complex considerations, including the potential impact on financial stability, credit availability, and economic growth. Political and economic factors can influence these decisions, as policymakers seek to balance various objectives and stakeholder interests.

In the case of sovereign credits, governments often enjoy a special status in terms of credit risk assessment due to their ability to tax, print money, or access bailout funds. This special treatment reflects political and economic considerations that aim to maintain stability in the financial system and protect the government's ability to finance its operations.

Similarly, home mortgages have historically been viewed as relatively low-risk assets due to their collateralization by real estate. Encouraging home ownership and providing liquidity in the mortgage market are often considered important policy goals to support economic growth and societal well-being. However, the 2008 global financial crisis highlighted the risks associated with underestimating the systemic impact of mortgage-related assets.

The term "regulatory populism" can be subjective and may imply a derogatory connotation, suggesting that political considerations override prudential risk management. While political and economic factors can influence regulatory decisions, it is important to recognize that risk weighting methodologies and capital requirements are also shaped by technical considerations, international standards, and expert input.

The ongoing evolution of regulatory frameworks, such as the Basel Accords, reflects efforts to strike a balance between addressing systemic risks, ensuring financial stability, and aligning regulations with the changing dynamics of the financial industry.

Overall, while political and economic considerations can influence regulatory decisions in the financial sector, characterizing them solely as "regulatory populism" oversimplifies the complex nature of these decisions and the objectives they aim to achieve."

Note: The answers are copied exactly from those given to me by OpenAI

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

My conclusion:

Artificial intelligence does not see risk weighted bank capital requirements as some kind of populism. 

"Regulatory populism can imply a derogatory connotation, suggesting that political considerations override prudential risk management" Is it scared? :-) 

What says human intelligence?

A tweet:

"To make your bank system safer, here our risk weighted bank capital requirements. These decree the more creditworthy, me & my Pigs, more worthy of credit, and you, less creditworthy, as less worthy of it. 

The animals on Orwell’s farm said: Thanks Napoleon!"

https://twitter.com/PerKurowski/status/1654847401893453825?s=20

Why does IMF never mention that credit-risk-weighted capital requirements for banks, is a potent inequality driver?

I refer to an IMF Staff-Discussion-Note titled “Causes and Consequences of Income Inequality: A Global Perspective”. It includes among other “Factors Driving Higher Income Inequality” the following:

“Financial globalization. Financial globalization can facilitate efficient international allocation of capital and promote international risk sharing. At the same time, increased financial flows, particularly foreign direct investment (FDI) and portfolio flows have been shown to increase income inequality in both advanced and emerging market economies… Financial deregulation and globalization have also been cited as factors underlying the increase in financial wealth, relative skill intensity, and wages in the finance industry, one of the fastest growing sectors in advanced.

Financial deepening. Financial deepening can provide households and firms with greater access to resources to meet their financial needs, such as saving for retirement, investing in education, capitalizing on business opportunities, and confronting shocks. Financial deepening accompanied by more inclusive financial systems can thus lower income inequality, while improving the allocation of resources… Theory, however, suggests that … inequality can increase as those with higher incomes and assets have a disproportionately larger share of access to finance, serving to further increase the skill premium, and potentially the return to capital.”

And again I must ask: Why does IMF insist on keeping mum on that huge financial inequality driver that is the risk-weighted capital requirements for banks?

Society lends bank much support, not only directly, by entrusting it with its deposits, but also indirectly, by offering deposit guarantees that if called upon will be paid by taxpayers.

And the Basel Committee thought it could make banks safer by making the capital requirements for banks to be dependent on perceptions of credit risk… while entirely ignoring that those perceptions of risk were already cleared for, by means of risk premiums and size of exposure.

And so, for instance with Basel II, regulators decided that banks were allowed to leverage the societal support over 60 times to 1 when lending to the AAArisktocracy, namely those rated AAA to AA, but only about 12 times to 1, when lending to unrated SMEs and entrepreneurs. That, which allows banks to earn much higher risk-adjusted returns on equity when lending to “The Safe”, blocks the opportunities of “the risky” to obtain fair access to bank credit. It therefore constitutes a huge driver of inequality.

And since the document refers to “Financial deregulation” I must also ask, for the umpteenth time…what financial deregulation? That where a small number of regulators redirect the allocation of bank credit all over the world… de facto imposing global capital controls? You’ve got to be kidding!

No! The Basel Committee is just a nest of irresponsible populist technocrats, who frankly have no idea of what they are doing. For instance they derive those capital requirements, that they themselves declare should be there to cover for unexpected losses, from the perceptions of expected losses. How loony is not that? Clearly the safer something is perceived, the bigger its potential to deliver truly disastrous unexpected losses.

I have often complained about these regulations on the IMF blog… you can Google it on “blog-imfdirect.imf.org Kurowski”. But I have never received an answer from IMF, seemingly the automatic solidarity among technocrats is very strong.

PS.That regulatory protectionism can both keep our banks safe and allocate credit well, is pure and unabridged technocratic populism

PS. My 2019 letter to the Financial Stability Board (FSB)