What the World Bank most needs to do in order to end poverty.

Sir, I refer to Robin Harding´s article on the restructuring program of the World Bank that is currently being executed by its president Jim Yong Kim, “Man on a mission”, April 8.

I do not know much of the program but, as a former Executive Director of the World Bank, 2002-2004, I do know that whatever it contains, much more important for the bank’s quest of ending poverty, would be for it to speak out loud and clear against the risk based capital requirements for banks that have invaded current regulations.

The net effect of those capital requirements is to allow banks to earn much more risk-adjusted return on their equity on exposures deemed as “absolutely safe”, than on exposures deemed as “risky”. And as you can understand this is something which dramatically distorts the allocation of bank credit in the real economy.

By in that way favoring the access to bank credit of the “infallible”, these capital requirements add a new layer of discrimination against “the risky” poor developing countries, the World Bank´s most important constituency… and, within all countries alike, against “the risky” medium and small businesses, entrepreneurs and start-ups.

In short the world´s premier development bank needs to remind regulators of the fact that risk-taking is the oxygen of any development… and that there is in fact no chance whatsoever to fight poverty, or even to sustain an economy, in a risk free way.

And the World Bank, in its quest, should also be able to enlist the help of their neighbor the IMF, by reminding the world´s premier financial stability watchdog of the fact that major bank crises never result because of excessive bank exposures to what is perceived as “risky”, these always result, no exceptions, from excessive exposures to assets which were ex ante perceived as “absolutely safe”, but turned out not to be.

PS. This is not new. In April 2003, as an Executive Director, in a formal written comment on the World Bank‘s strategic framework 2004-06 I stated:

"Basel dictates norms for the banking industry that might be of extreme importance for the world’s economic development. In Basel’s drive to impose more supervision and reduce vulnerabilities, there is a clear need for an external observer of stature to assure that there is an adequate equilibrium between risk-avoidance and the risk-taking needed to sustain growth. Once again, the World Bank seems to be the only suitable existing organization to assume such a role."

PS. Also, though I am not a banker or a regulator, the following which I formally stated at the Board in October 2004, should serve as evidence that I might know something of what I am talking about:

“Phrases such as “absolute risk-free arbitrage income opportunities” should be banned in our Knowledge Bank. I believe that much of the world’s financial markets are currently being dangerously overstretched though an exaggerated reliance on intrinsically weak financial models that are based on very short series of statistical evidence and very doubtful volatility assumptions.”