Thursday, November 9, 2017

When government bureaucrats are favored more than entrepreneurs in the access to bank credit, the game is soon over

In 1988, with Basel I, out of some Pandora box, for the purpose of setting the capital requirements for banks,the  regulators came up with a risk weight of 0% for sovereigns and of 100% for citizens. As a result banks need to hold much less equity when lending to sovereigns than when lending to citizens.

That 0% risk weight was premised on that sovereigns were in possession of the money-printing machines and could therefore always repay. I am sure the Medici’s would have shivered hearing such a generous risk assessment.

So, since then, banks have been allowed to leverage much more with loans to sovereigns than with loans to citizens; and therefore obtain much higher risk adjusted returns on equity when lending to sovereigns than when for instance lending to entrepreneurs. 

That de facto implies believing in that a government bureaucrat can use bank credit that he himself has not to repay, better than an entrepreneur.

That alone should suffice to make clear how loony and statist the current bank regulations are.

But the world keeps mum on this. As I see it this is a regulatory crime against humanity that should be punishable.

Here is a more extensive explanation of the mistakes of risk weighted capital requirements for banks.

Saturday, November 4, 2017

Crimes against humanity can also be committed through subtle and nonviolent means, like with bank regulations

Let us suppose a continuation of regulators who, in order for banks not to crash under their respective watch, decreed that banks should concentrate all their activity lending to “infallible” sovereigns, to those with good credit ratings, to the safe financing of houses; and to stay away from lending to all those who are perceived as risky.

That because they, like bankers, they looked at what could be risky for banks, and not as they should have done, as regulators, at the risks that might not be perceived.

And the consequences of it is that millions of those who though they are perceived as risky could help the economy move forward and generate new jobs, such as SMEs and entrepreneurs, have their access to bank credit denied.

And so hundred of millions of our young will not get jobs and have to remain living in their parents’ basements… that is unless they revolt and send their parents down to the basements.

And yet, sooner or later, especially large bank crisis will result, because of unexpected events, or because of excessive exposures to something that was perceived, decreed or concocted as safe, but that ex post turned to be risky. And these crises are made so much worse when banks have to hold especially little capital against those ex-safe assets.

This is precisely what the risk-weighted capital requirement for the banks created by the Basel Committee for Banking Supervision cause.

These allow banks to leverage more with what is “safe” than with what is “risky” and thereby obtain higher risk adjusted returns on capital with what is “safe” than with what is “risky”.

As a direct consequence, millions of job opportunities for our young have already been lost forever; and the first big crisis already occurred in 2007-08, only that in this case the central bankers, with their quantitative easing and ultra low interest rates, kicked that can forward.

And here we are, sitting on artificially inflated stock market valuations and house prices that, when true need arises, will never be able to be converted back into the same effective real purchase power that was invested in them.

And all that huge sovereign debts accumulated in the process can only be repaid with help of the printing machine, and never in terms of the real purchase power that was invested in its generation.

And the human sufferings, and the consequent strains all this will impose on our social fabric will be immense… especially when like now in many countries it will be compounded by big demographic changes.

Does all this not indicate that these regulations could be classified as a horrendous and perhaps even punishable regulatory crime against humanity?

Or will the inquisition of the high priests of bank regulations just excommunicate me, like any Galileo?

Where do I nail these my Theses about the risk weighted capital requirements for banks, so as to at least achieve a discussion of them? 

Or will the inquisition of the high priests of bank regulations just excommunicate me, like any Galileo?

Sunday, October 29, 2017

“If you see something says something”. Yes, but it’s not easy to be a whistleblower on our too inept bank regulators.

Sir, never ever has a bank crisis of any important magnitude resulted from excessive exposures to something that was perceived as risky when placed on the balance sheets of banks.

These have always resulted from unexpected events, like major devaluations, criminal behavior or excessive exposures to something that was perceived as safe when incorporated in the balance sheets of banks but that ex post turned out to be risky.

So when bank regulators, like with their Basel II of 2004 set the risk weights for what is rated AAA at 20%, and that of the below BB- rated at 150%, then this is a too serious clue of them not knowing what they’re doing.

I have been shouting my lungs out about this basically since 1997, but it is very difficult for an ordinary citizen, even for someone who for some years was an Executive Director at the World Bank, to have someone to listen to him, when he holds that our supposed expert bank regulators left a bomb in our real economy.

PS. I will send the above letter to as many editors I can.

Financial Times
New York Times
Wall Street Journal
Washington Post
Svenska Dagbladet
The Economist

Friday, October 27, 2017

IMF, the Basel Committee’s procyclical risk weighted capital requirements puts financial cycles, global or local, on steroids

This year’s IMF Jacques Polak Annual Research Conference on November 2–3 is titled “The Global Financial Cycle.” 

It aims to bring together contributions by leading experts on the topic—from both within and outside the IMF—to improve the “understanding of a range of issues, including the causes and consequences of the global financial cycle, the transmission channels of global financial shocks, and the role of domestic policies in dampening the impact of global shocks.”

I wonder if, again, for the umpteenth time, the distortions produced by risk weighted capital requirements in the allocation of credit to the real economy will be ignored.

The following is the comment I posted on the IMF Blog

Risk weighted capital requirements, more risk more capital – less risk less capital, allows banks to earn much higher risk adjusted returns on equity with what is perceived decreed or concocted as safe, than on what is perceived as risky. 

That pushes more than ordinary the financial pursuit of “the safe” and the avoidance of “the risky”.

That de facto puts financial cycles, whether global or local, on steroids.

PS. I have now read all the papers presented in the conference and the only one that makes somewhat of a reference to risk weighted capital requirements, is “Global financial cycles and risk premiums?” authored by Oscar Jorda, Moritz Schularick, Alan M. Taylor and Felix Ward, October 2017

It includes “If banks hold foreign assets on their balance sheets and mark them to market, price changes can synchronize the risk appetite and the trading behavior of banks around the world. For instance, if Federal Reserve policy affects U.S. equity prices, falling asset prices in the U.S. decrease (risk-weighted)-asset-capital ratios of U.S. as well as international banks, which start to cut down their risk-taking in sync with U.S. banks.

If no large risk-neutral player steps in to compensate for the lower risk taking of the leverage-constrained intermediaries, risk-spreads will increase.”

But as one can see that is how financial cycles or event affect “(risk-weighted)-asset-capital ratios”, but not how these risk weighted capital requirements affect the financial cycles.

For instance Greece would never ever have been able to obtain so much debt had it not been for the ridiculous low capital requirements on that debt.

Wednesday, October 18, 2017

What’s the similitude of World Bank and IMF? That the Basel Committee has fooled them both!

World Bank has the function of development… and has ignored that risk weighted capital requirements for banks kills the risk-taking that is the oxygen of development.

IMF has the function of stability … and has ignored that bank crises are caused by excessive exposures to what’s wrongly perceived as safe, and never to what is rightly perceived as risky.

Explaining to World Bank and IMF the horrific mistakes of Basel’s bank regulations, has not been an easy journey

28:30, I am Per Kurowski, of New Rules for Global Finance

This is a question for the umpteenth time to the World Bank:

As the world’s premier development bank the World Bank must know that risk-taking is the oxygen of any development. So why is it still not speaking out against the risk-weighted capital requirements for banks that put a brake on risk-taking, like on the lending to SMEs small and medium sized enterprises…even though never ever has a major bank crisis erupted because of excessive exposures to something ex ante perceived as risky.

30:50, World Bank, Jim Yong Kim

On risk taking I am not sure I understood the question correctly, but there is, because of in many ways I think very much necessary prudential rules, the Basel process, one of the side effects of it is that it has been a systematic de-banking of many developing countries, especially in Africa. 

And so many banks Standard Chartered and others that had very strong presence in the developing world have for the most part left. And so we have a terrible time in terms of accessing capital markets in the way that they did before.

So it’s a huge concern for us, and we are continuing to engage with the Basel process and we are continuing to try to talk about some of the side effects. For example it is much more difficult and expensive to send remittances back now because these institutions don’t exist. 

And so the problem of insuring that the poorest countries have access to capital markets is very-very high on our agenda, and is really at the core of the major issue we talked about in spring meetings which is our cascade; and the cascade is essentially recognition that on the one hand it is very difficult for very good emerging markets infrastructure projects to get capital, and on the other hand there is more than 10 trillion dollars in negative interest bond, and 25 plus trillions in very low earning bonds and another 8 trillion in cash sitting in peoples safes, and they would like to get a higher return, but the perception of risk in the emerging market is so high, that the capital is just not moving.

So we are putting so much of our effort into mitigating this situation where you have great projects, great potential for building infrastructure that would lead to growth but that are not being financed; we are really focusing on filling that void on the problem I think you are pointing to.

My comment: It was not answering my real question but it was still a very valid answer. If given a chance my re-question would have been: Do you think Standard Chartered would have left those development markets had it had to hold the same capital against all its assets than what it is required to hold on loans to these markets? The answer to that is surely “No!”

35:25, IMF, Mme Christine Lagarde.

I am actually tempted to address also this question, is that okay?

Because I think it is an important point and one that has very complex ramifications. It has complex ramifications in the banking regulations business, in the banking supervision business, and in the accounting business.

And then it is at the very junction of between sort of self-established model by the banks versus models established by the supervisors. 

I think we both would agree that methods that would actually encourage the lending by banks and by insurance companies and by pension fund to SMEs, you know with the risk associated with it, should actually be very much in order.

At the moment the risk weighing methods and the models that are being used are discouraging from actually investing and taking risk to benefit the small and medium sized enterprises 

And that’s not necessarily the best avenue to support the economy and to support entrepreneurs who want to have access to financing.

My comment: Many thanks, but Mme Lagarde, it really behooves the IMF, and the World Bank, to understand why it took them about 15 years, Basel II, to see this problem.

30:50 World Bank, Jim Yong Kim

Just to add to that, we are now trying to come up with lots of different innovative approaches to de-risking those investments, taking first loss, using political risk insurance credit enhancements, lot of tools that we are using now to try to respond to the situation

My comment: That is good to hear, but beware, de-risking credits, against distorted and inadequate bank regulations, could have very bad unexpected consequences.

PS. Very much inspired by John Kenneth Galbraith’s “Money: Whence it came, where it went” (1975), I started my fight against Basel Committee’s regulations in 1997, in my very first Op-Ed “Puritanism in Banking”.

And in 2003, as an Executive Director or the World Bank, in a workshop for bank regulators I warned: “The other side of the coin of a credit that was never granted, in order to reduce the vulnerability of the financial system, could very well be the loss of a unique opportunity for growth. In this sense, I put forward the possibility that the developed countries might not have developed as fast, or even at all, had they been regulated by a Basel.”

In 2007, ten years ago, at the High-level Dialogue on Financing for Developing at the United Nations, as civil society, I presented the document: “Are the Basel bank regulations good for development?

And since then I do not know how many times, I have tried and failed to draw IMF’s and World Bank’s attention to the many very serious mistakes that are imbedded in Basel’s risk-weighted capital requirements for banks.

Have I arrived at the end of my journey? I am not 100% sure, but I do see some light J

Sunday, October 15, 2017

Did someone ever looked into the role of bank regulations causing Iceland's bank crisis?

I do not know, but I guess not.

From Wikipedia we read the following about the causes for the Iceland bank crisis:

“In 2001, banks were deregulated in Iceland. This set the stage for banks to upload debts when foreign companies were accumulated. The crisis unfolded when banks became unable to refinance their debts. It is estimated that the three major banks held foreign debt in excess of €50 billion, or about €160,000 per Icelandic resident, compared with Iceland's gross domestic product of €8.5 billion”

That seems true. But where does it say anything about why Iceland's banks were able to get so much debt? For instance from UK and Holland?

If I were an investigative reporter, which I am not, I would start by looking at how much capital UK and Dutch banks had to hold when lending to these banks of Iceland... and then compared this to how much capital they needed to hold when lending to a small or medium unrated enterprises in the UK or in Holland. 

That should give you an idea of where UK and Dutch banks would think they would earn their highest risk-adjusted returns on equity... and the rest should be easy to figure out.

Perhaps Iceland should have sued the Basel Committee for Banking Supervision.

Friday, October 13, 2017

It behooves us to revise the purposes of our banks, as these are defined by current capital requirements

The lower a capital requirement is, the higher can a bank leverage its equity, the higher is the risk adjusted return on equity it can obtain.

Risk weights of: sovereign 0%, AAA rated 20%, residential housing 35% and unrated SMEs 100%, clearly indicate that the de facto purpose regulators have imposed on banks, is to finance sovereigns, those who already enjoy the lowest risk-premiums, and those buying houses and therefore implicitly house prices. 

Regulators have told us this is so that our banks are made safe. Silly! Our bank systems are never threatened by “risky” SMEs and entrepreneurs, only by that perceived ex ante as very safe and that ex post turns out to be very risky. 

I would expect much more from our banks, like financing development, sustainability and job creation; and I would assume many would agree with me.

If we want that produced by banks, by means of allocating credit as efficiently as possible to the real economy, then we should make sure every single bank asset, except for cash, generates exactly the same capital requirement.

Now if regulators absolutely insist on nudging, so to be perceived as earning their pay, then perhaps they could base their capital requirements on how the asset helps to finance development, sustainability and job creation.

And, if regulators want to be really sophisticated about it, then the could even fill each box of a purpose/credit risk matrix with individual capital requirements… always of course remembering the golden rule of the riskier it seems ex ante the safer it is ex post. 

PS. Perhaps the capital requirements could even be slightly based on gender, so as to give women some compensation for all the disadvantages we are told they suffer. (Psst some tell me that loans to women also carry less risk)

Monday, October 9, 2017

Should our nannie state tax all risk-taking at higher rates, as current bank regulators do?

Motorcycles, in terms of deaths per miles driven, are much riskier than cars. Should society therefore levy a special risk tax to compensate it for the unnecessary early death of its members? (Even though we know more people die in car than motorcycle accidents

Since sport injuries have a cost for the society should we tax sports based on their injury rates? For instance applying a 10 percent risk tax on cricket and one of only 1 percent on croquet (pesky squirrels).

If one assumes that the risks involved with any activity are not adequately perceived or considered, one could of course construe a case for those taxes. But, should we dare to assume risks are not already perceived and cleared for if we therefore could end up with a very risky too risk adverse society?

And I ask all this because taxing risk-taking is exactly what current regulators do with their risk weighted capital requirements for banks.

They now require banks to hold more capital against what is already perceived as riskier (motorcycles) than against what is perceived as safe (cars). This translates into banks having much higher possibility of maximizing their returns on equity with what is “safe” than with what is “risky”; which de facto is a tax on “the risky”.

Consequences? Banks build up dangerously large exposures to what is perceived, decreed, or concocted as safe, like sovereigns, AAArisktocracy and mortgages; and to small exposures, or even no exposure at all to what is perceived as risky, like SMEs and entrepreneurs.

Clearly if the risks are already perceived and considered by bankers, in the size of the exposure and the interest rates charged, to then also have the capital reflect the perceived risks, cause these risks to be excessively considered; resulting in an excessively risk-adverse banking system.

Just consider that already, partly because of the higher risk perceptions, many more people die in car than in motorcycle accidents. 

Think of a society where no one drives motorcycles or plays cricket because the risk-taxes are too high, and all keep to cars and crocket. Is that the kind of society that will be strong enough to survive? Is that what we want?

I am sorry but there is no more figurative way to express it. The Basel Committee for Banking Regulations and their affiliated regulators have effectively castrated our banking system. Will that make us safer? Of course not! 

Our banks will dangerously overpopulate safe-havens; in which they will die from lack of oxygen.

Our economies are going to dwindle into nothing, when denied the oxygen of risk-taking necessary for all development.

Friends, we must urgently get rid of these dangerously inept bank nannies.