May 27, 2009

There is a zero capital requirement for banks on AAA public debt

Sir some define systemic risk simply as the risk of collapse of an entire financial system or entire market, as opposed to risk associated with any one individual entity, but that is in fact more the result of the systemic risks that originates from the interdependencies and the failures of the system itself.

John Taylor in “Exploding debt threatens America” May 27 writes that he believes the debt projected level of US debt to be systemic. Yes indeed the debt could be so large that it could bring us an awful inflation but what really propels it as a systemic risk is not so much its size but the fact that the current minimum capital requirements for banks in the case of public debts rated triple-A is an astonishing zero, which not only subsidizes the growth of public debt but also leaves the system totally unprotected.

This type of systemic risk led us to the precipice of the badly awarded mortgages to the subprime sector just as it will help to lead us to the precipice of governments too much in debt.