April 30, 2014

EU regulators, while stress testing banks, also measure the stress banks cause in the real economy.

Sir, Sam Fleming and Claire Jones report “EU regulators unveil details of bank stress tests” April 30.

Again these tests are too bank centered, and do not consider the stress bank lending, or the absence of it, causes in the real economy.

For instance if there is one single figure banks regulators should look for, that is how the lending to “the risky”, the medium and small businesses, the entrepreneurs and start-ups have evolved since they approved Basel II. Then they could perhaps better understand how the capital requirements for banks based on ex ante perceived risks distorts the allocation of bank credit.

Please, someone, anyone, inform the European regulators that there are no such thing as medium term “safe banks” when the real economy is stagnating.

Really beware when a regulators’ identical complacency is added to that of the bankers.

Sir, John Plender writes “Beware the onset of bank industry complacency”, April 30. Of course, we always should beware of that… though let us not forget that “complacency” is based on the assumption that their exposures are absolutely safe, when in fact that is precisely when things get truly dangerous. In other words it is not possible for banks to be complacent when they think they are doing something risky.

Plender describes a period where there was bank stability, even though bank capital was not that high, and that everything went haywire after “Capital regulation arrived with the Basel Accord of 1998”. That should point directly to that the real “new” problem that occurred with bank stability was when it was decided that the capital requirements should be different based on the ex ante perceived risks. And that completely distorts the allocation of bank credit creating dangers to the banks and to the real economy. And yet, that problem is not understood,, or stubbornly ignored… and it is really hard for me to understand the why of that.

Could it be because Plender and others really believe that risk-weighted means risk-weighted? Wow, the power of words!

Let me put it this way…what we must really beware of is regulators adding on a similar, or sometimes an even identical complacency to that of the bankers… both based on the same risk perceptions. Our current regulators are focusing on the expected risks, those that bankers are supposed to be able to take care of on their own… completely forgetting that their role is to think about the unexpected risks. That is what is so terribly wrong.

Regulation which favors access to bank credits of the “safe” over the “risky” dooms the economy to stagnate

Sir, Martin Wolf in support for his usual begging for fiscal deficits to be invested in infrastructure, refers to Lawrence Summers in that “the high-income economies seem to be worryingly unable to generate good growth in demand without extreme credit instability”, “How to stir life into a stagnant world”, April 30. And I wonder what they consider “extreme credit instability”? Is it, as I presume they mean having banks lend to the “risky”? If so, that is totally wrong!

As I see it, the real poison that has infected our economies, are the capital requirements for banks based on ex ante perceived risks that were introduced with Basel II, in June 2002. These regulations allow banks to earn much higher risk-adjusted returns on equity when lending to the “safe” than when lending to the “risky”; which obviously results in the banking system lending much too little to the risky, like medium and small businesses, entrepreneurs and start-ups, and much too much to the “infallible”.

And that Wolf is able, in April 2014, to write about “changes in portfolio preferences towards safe assets” without mentioning these pathological risk adverse regulations hard to understand, that is unless he has a personal reason for hiding it.

At all times we hear about the importance of risk taking… only last night in America, in “The Voice”, one of the judges, Blake Sheldon, reminded the performers that “the worst thing you can do is to play it safe”.

Our bank regulators have got it so unbelievably wrong. Any real risk management session, in order to keep the right perspective, should start with the question of: What is the risk we cannot afford not to take? And in banking the answer would be: We cannot afford to stop our banks from opening the “risky” doors behind which we might those lucky nuggets that will keep our real economy moving forward, so that it does not stall, so that it does not fall.

Sir, of course we have a stagnant world! How could it be otherwise with these bank regulations?

And if to top that up you take into account that all bank crisis always result from too much exposures to something erroneously considered safe, and none because of excessive exposures to what is considered risky, then you really begin to understand how absolutely insane these bank regulations are. 

PS. Sir, just to let you know, I am not copying Martin Wolf with this, as he has asked me not to send him any more comments related to the capital requirements for banks, as he understands it all… at least so he thinks.

April 28, 2014

Yes, America, the Land of the Free and the Home of the Brave, is suffering some serious mutations.

Sir, Edward Luce is absolutely right writing about “America’s compulsive urge to regulate” April 28. It would suffice with reading all those mindboggling, never less than two dozen, of safety instructions stapled around those American swimming pools from which you are extracted, every half hour, for a water quality check.

And when it comes to incongruities with “The Land of the Free and the Home of the Brave” it suffices to know that in America too… by means of risk-weighted capital requirements banks are allowed to earn much higher risk-adjusted returns on shareholders capital, when lending to the “absolutely safe” than when lending to the “risky”

We should not ignore the contentment of the structurally unemployed when measuring economic recovery.

Sir, though surely a healthy economy requires quite a dose of confidence, Wolfgang Münchau is quite correct in that “Confidence is a poor measure if economic health”, April 28.

And I sympathize entirely with the idea that time like ours “when the economy is inherently unstable, when it does not return to equilibrium-the steady state around which [we at least believe] it should normally fluctuate… [makes] forecasting difficult and unpleasant.

But I am not fully convinced that “the employment rate as a percentage of the working-age population” would be the best way to measure whether an economy is recovering. And I say that because a recovering economy might also signify an increase in the contentment of many structurally or voluntarily unemployed. For instance a recovering economy, would perhaps provide for a better return on the savings of all those who have been hit by the double whammy of losing a job and not earning enough on their savings.

Also, focusing more on the contentment of the unemployed might have a very special significance, as there can be little as socially disruptive as the discontent unemployed.

We are now paying the costs of financial crises without reaping the progress from it.

Sir, John Authers’ refers to several books on financial crises in “Human nature means financial crises are price of progress” April 28.

I can bet that if Authers reread those books, he would be able to ascertain that during the buildup of the high exposures to those assets that were going to exploit in the next crisis, these assets were always considered as “absolutely safe”. No exception! No excessive build up of exposures to assets considered as “risky”… simply because that is also human nature. And that is one reason for which the current risk weighted capital requirements for banks, less risk-less capital, more risk-more capital, are as dumb as they can be.

And Authers’ also writes that “many great innovations through the centuries have been accompanied by manias and crashes. So we must accept crises as a cost of progress…” And that points at the second reason for why the current risk weighted capital requirements for banks, are as dumb as they can be. These by allowing banks to earn higher risk adjusted returns on equity when lending to the “safe”, stop the banks from opening those “risky” doors behind which the real surprising nuggets of luck that keeps our civilization from moving forward, most often hides.

I just saw Patty Lupone in an extraordinary HBO documentary “YoungArts MasterClass” telling some young gifted kids that the most important advice she could give them was to “take risks and be not afraid of failures”. Sir, but our current bank regulators in their pathological aversion of failures, do not allow our banks to take the risks that we, as a civilization, cannot afford not to take… namely the lending to “risky” medium and small businesses, entrepreneurs and start-ups. In the name of the Lost Generations who will pay for this…damn them!

April 26, 2014

Is Thomas Piketty, with his “Capital” unwittingly working for the big time Oligarchs and Plutocrats?

Sir, I refer to Gillian Tett’s “The lessons from a rock-star economist”, April 26.

Anyone wanting to tax more wealth and income, in order to make up for an inequitable distribution, without first identifying and remedying the causes of such inequities is, de facto, working to increase the wealth and power of the big time Oligarchs and Plutocrats, because if no other changes, to them is where all those new taxes paid by the other wealthy is going to go, before the end of the day.

And I have not really understood the reason for the great hullaballoo around Thomas Piketty´s 685 pages long Capital in the Twenty-First Century. Of course it contains many interesting arguments but… what is really its new news? Gillian Tett might be quite right when she says “it has forced Americans to confront a growing sense of cognitive dissonance”… though perhaps one could equally describe that as having created the opportunity for some to exploit a growing sense of cognitive dissonance.

The book is based on a gross simplification that forces reaching the wrong conclusions. Already in the flap cover we read: “The main driver of inequality-the tendency of returns on capital to exceed the rate of economic growth-today threatens to generate extreme inequalities…But economic trends are not acts of God. Political action has curbed dangerous inequalities in the past, Piketty says, and may do so again”.

Much more accurate, and meaningful, would have been to start the analysis by asking … why is there a tendency of returns on capital to (in between crises) to exceed the rate of economic growth”. Most, if perhaps not all of those causes, are to be found directly linked to one sort of rent seeking or crony capitalism, something which clearly involves the hand of politics and governments, and something which has little to do with real capitalism. But that might not have been a welcomed conclusion to those who want to work at both ends… where the inequalities and the headaches are created and where the aspirins are handed out.

And of course to me, when Piketty writes “there is absolutely no doubt that the increase of inequality in the United States contributed to the nation’s financial instability” he is totally wrong. It was bad bank regulations which basically permitted banks to work with less and less capital, and the exaggerated importance given to the financing of home ownership, which caused the nation’s instability.

And when Piketty writes: “one consequence of increasing equality was virtual stagnation of purchasing power… which inevitably made it more likely that modest households would take on debt, especially since unscrupulous banks… freed from regulation and eager to earn good yields on the enormous savings injected into the system by the well-to-do, offered credit on increasingly generous terms”, it frankly reads like a simple provocateur pamphlet. By the way “increasing generous terms”? What a laugh! He clearly never saw the terms of the bad mortgages awarded to the subprime sector. 

And when Piketty writes “the financial crisis as such seems not to have had an impact on the structural increase of inequality”, we are left with the question of … why do you think that is so Professor?, since he seems to wish to ignore the role of Tarp and QEs in saving the wealth, at the price of even increasing the inequalities.

What can I say? I just hope for the sake of many fans, that by next year they will not see in bookstores a bestseller titled “How we masterfully launched Piketty’s Capital”.

PS. I have read about one third of the book jumping from here to there. If I find something that will make me change my opinion while reading the rest, I will let you know.

April 25, 2014

Strip bank regulators of their power to play Masters of the Universe

Sir Martin Wolf writes “Our financial system is so unstable because the state first allowed it to create almost all the money in the economy, and was then forced to insure it when performing that function”… and it is this Wolf wants to fix with “Strip private banks of their power to create money” April 25.

Nope! And it amazes me that Martin Wolf, in April 2014, still does not get it. What really messed up the whole banking sector were the regulators allowing banks to hold such minimal levels of capital against assets that banks ended up with 50 to 1 Debt to Equity ratios, and that they decided to differentiate the capital requirements based on perceived risks already cleared for, which of course distorted all common sense out of the credit allocation of banks.

In that respect my counterproposal would be to “Strip bank regulators of their power to play Masters of the Universe”. A simple 8-10 percent capital requirement for banks, against any asset, no exclusions, and reaching that goal in a pragmatic way that does not hurt the economy, sounds immensely better than handing over 100% of money creation to the State.

Yes we must solve the problem of the too big to fail banks… but not by placing all our trust in a never too big to fail State. (Is Wolf a closet communist?)

PS. Sir, just to let you know, I am not copying Martin Wolf with this, as he has asked me not to send him any more comments related to the capital requirements for banks, as he understands it all… at least so he thinks.

April 24, 2014

I, a Venezuelan citizen, I am not going to do one iota for many of the Venezuelan creditors to get paid... much the opposite!

Sir in “Latin rebels turn to pragmatism” April 24, you write, “in Venezuela… After all, it is not unnamed acts of sabotage by ‘fascists’ or shadowy economic elites that have undercut private investments. The real culprits are price controls, expropriation threats and mismanagement. This is not ideology but rather a simple observation”.

Indeed, and if you know it, why should Venezuela’s sophisticated creditors not know it? Would these creditors have liked it if their own governments, misbehaving that much, would find financing that led them to saddle their own future generations with huge debt?

Just last Tuesday, April 22, Mohamed El-Erian, in “Beware the allure of cheapening Russian debt” wrote “For years…savvy investors ignored the populist anti west rhetoric of former President Hugo Chavez, focusing instead on the country’s solid oil revenues”… but he forgot to tell they also charged hefty risk premiums.

And so I ask, since these “savvy investors” also knew that there was at least 50 percent of the Venezuelans who did or do not agree with the government, and many even thought it to be illegitimate, do they really believe that if there is a change of power in Venezuela, these debts should be respected, no matter what?

Just to make the point… without implying any real comparison, let me ask… if the building of Auschwitz had been financed with an international sovereign bond issue, should the creditors expect those bonds to be repaid.

At least I, a Venezuelan citizen, am not going to do one iota, for many of the Venezuelan creditors to get paid. Indeed, much the opposite! ... and, just in case, I am no Argentinean Peronista.

Can bank regulators keep silence on the conversion to equity probabilities of cocos?

Sir, I have one question in reference to Alice Ross’ and Christopher Thompson’s “German banks line up to join coco party”, April 24.

Do regulators have any moral or formal duty to reveal to any interested buyers of cocos if they suspect the possibilities of these having to be converted into bank equity being very high? I say this because if so, and if they keep silent on it, that would make them sort of accomplices of bankers. Would it not?

Of course banks need capital, lots of it, but tricking investors into it, does not seem like the right way for getting it.

April 23, 2014

When fighting inequality, before redistributing, eliminate some of its worst man-made causes.

Sir, on the front page you label Martin Wolf’s “A more equal society will not hinder growth” as “Robin Hood’s economy” April 23. Just in case, and since so many have recently been mixing up Robin Hood with the Sheriff of Nottingham, let us be clear in that Robin Hood indeed helped the poor, but he was not a tax collector for King John… much the contrary.

Many years ago in an op-ed, I wrote that since justice lies on a never ending continuum, which made it hard to know where you find yourself, the most effective way to fight for justice was by attacking the much easier identifiable injustices. In the same vein, since it is hard to define what equality we need, before the grave, it is better to combat the most egregious sources of inequality.

Right now many economic injustices firmly anchored in what is known as rent extraction or crony capitalism are important inequality drivers. Trying to make up for the bad results, by for instance a tax on wealth, without correcting those drivers will lead to even more inequality.

There are many man-made causes for inequality. Two of those that I have been proposing to end are:

First: It makes no sense if we want to make our capitalism vigorous that the usually ample profits obtained under the protection of a patent, or through the power of an extravagant market share, should be taxed at the same rate, that those more meager profits resulting from having to compete naked and unprotected in the market. As a result the capital accumulation of “the protected” will be higher than that of “the unprotected” with very dire long term implications to the dynamism of capitalism.

Second: It makes no sense whatsoever to allow banks to obtain higher risk-adjusted returns on equity when lending to “the infallible” than when lending to “the risky”. And that is the direct result of those so obnoxious risk-weighted capital requirements. Robin Hood would never agree with allowing banks to lend, in risk-adjusted terms, more favorably to the “infallible sovereign” or to the AAAristocracy than when lending to a “risky” Sherwood Forest entrepreneur.

Again, let us be sure that we fight inequality by reducing its causes, not by increasing the profits of the intermediaries in redistribution, the merchants of inequality reduction.

PS. Sir, just to let you know, I am not copying Martin Wolf with this, as he has asked me not to send him any more comments related to the capital requirements for banks, as he understands it all… at least so he thinks.

April 22, 2014

Mr. Jacques de Larosiėre. You are not telling the truth and nothing but the truth

Sir, I refer to Jacques de Larosiėre’s “Securitised debt could give Europe’s economy the kiss of life” April 22. Yeah, but he must mean a “kiss of life” for the financial intermediaries.

Securitization is the process whereby you lend at the highest possible rate, achievable by convincing the borrower of how risky he is, and then resell it discounted at the lowest possible rate, achievable by convincing the investor of how safe the borrower is…. so neither investors nor borrowers stand to benefit much.

For instance, a $300.000 - 11% - 30 years mortgage to the subprime sector, when it was resold discounted at 6%, yielded the intermediaries a tidy immediate profit of $210.000!

And de Larosiėre ends stating “Reviving the market for securitized loans is the fastest way to bring Europe’s credit shortage to an end”. Not so! The only sustainable way to devolve sanity into the European bank credit markets, is to get rid of those capital requirements which allow banks to earn much higher risk-adjusted returns on equity when lending to the “safe” than when lending to the risky”

Who not an “infallible sovereign”, or a member of the AAAristocracy, can compete for bank credit under such circumstances?

Europe, start by getting rid of all those working on Basel III, they are too busy covering up for their fatal mistake of Basel II.

April 21, 2014

When banks earn higher risk adjusted returns on equity financing houses than financing the creation of jobs… something is wrong.

Sir, Congressman John Delaney writes “A significant contributor to the financial crisis was the governments mispricing of risk” “A pragmatic plan to free the mortgage market from Washington” April 21.

That is not exactly so. First, it is never the role of the government to correctly price risks, but to insure there are sufficient defenses for when the market and banks fail to correctly price risk… in other words, to care more for the unexpected than about the expected. And, while doing so, it is also definitely not the role of the government to distort the markets… something which unfortunately it has been doing lately.

With those risk-weighted capital requirements that have been so much in vogue lately among regulators, by allowing banks to hold much less capital against what is perceived as “safe”, which does not mean it will be safe, than against what is perceived as “risky”, which does not mean it has to be risky, regulators have allowed banks to earn higher returns on equity when lending to the safe than when lending to the risky… and of course that distorts. For instance it allows banks to earn more financing the houses than financing the riskier creation of jobs needed to pay for those houses.

When Congressman Delaney so correctly writes to remove “the harmful distortion that government involvement causes” I just wish he knew more about the mother of all regulatory distortions.

April 19, 2014

Regulators, accept gallantly you messed it all up with the risk-weighted capital requirements for banks. And amend these... please!

Sir I refer to John Dizard’s “Brussels spends too little time on reforms that could help SMEs” April 19.

Decades ago someone, I do not remember who, commented on how a board would take much less time deciding on a several million dollar technically difficult investment, than on the amount to be spent on serving coffee during their meetings.

So when John Dizard writes that “so much time gets spent on minor issues, such as high speed trading, and so little on incremental reforms that could actually ease the credit crunch for SMEs” we might have to revise that theory. The lengthiest discussions would not seem to relate to issues that board members most know about, but on issues that collectively they least know about, and where no one has the guts to display ignorance.

The risk-weighted capital requirements for banks, of Basel II and Basel III discriminate directly against the access to bank credit, in risk adjusted competitive terms, of the SMEs. It is as easy as that. The regulators should dare to admit that and make amends for it… fast. The future of the western world, the Judeo-Christian civilization, much depends on it.

April 17, 2014

Regulator’s attempt to hold back the financial tide is worse than futile, it is outright dangerous.

Sir, Robert Jenkins holds that “Regulator’s attempt to hold back the financial tide are futile” April 17.

“Futile”? No! Much worse! Outright dangerous! By building higher levels (higher capital requirements) where they and the banks perceive the risks as higher, they fuel the strength of the storm that will, as it always has done in banking, hit the shores perceived as absolutely safe, causing flooding and much sufferings.

It is not, as it translated into a permission to run a 33 to 1 debt equity ratio, that the 3 percent leverage ratio is clearly insufficient What’s worse is that by keeping the risk weights, those which leverage the negative results of perceiving the risks insufficiently, or excessively, the regulators evidence that they still believe themselves to be, the King Canute risk managers of the world.

But that of course could have to do with the fact that most of their subjects, like FT, are too subservient to allow voice to those who question their sanity.

PS. Risk-weighting: “Most humans suffer from this intellectual weakness: to believe that because a word is there, it must stand for something; because a word is there, something real must correspond to the word… As if lines scribbled by chance by a fool would have to be always a solvable rebus!Fritz Mauthner.

April 16, 2014

If I was a young unemployed European I would ask Michel Barnier to parade down European avenues wearing a cone of shame.

Sir, I refer to Alex Barker’s and Phillip Stafford’s “Six ways Europe’s financial sector is meant to mend its ways” April 16.

I am not impressed. Because in Europe, the regulators still allows a bank to hold much less capital (equity) if it lends to “the infallible” meaning sovereigns, real estate or AAAristocracy, than when lending to the “risky” meaning medium and small businesses, entrepreneurs and start-ups.

And so in Europe, regulators seem yet not have been able to understand this allows banks to earn much higher risk adjusted returns on equity when lending to “the infallible” than when lending to “the risky”.

And so in Europe, regulators still distort the allocation of credit to the real economy; that distortion that created the crisis, too much lending to Greece, real estate in Spain, AAA rated securities; that distortion that causes too little lending, in competitive terms, to those who could create the next generation of decent European jobs. 

And so, as I see it, Europe has not even started to mend its ways


If I was a young unemployed European I would ask Michel Barnier and his Basel Committee and Financial Stability Board colleagues to parade down European avenues wearing dunce caps – meaning cones of shame.

In the absence of QEs and TARP, would Piketty have written the same “Capital in the Twenty-First Century”?

Sir, I refer to Martin Wolf’s review of Thomas Piketty’s, “Capital in the Twenty-First Century” April 15.

First, I need to make two disclaimers. I have not read the book and, as suddenly references to it exploded on the web, I must confess I first thought of it as a too pushy publisher campaign, and I have not been able to free myself from that impression. From the little I have read of it, that in significance it is going to be up there with Hayek’s “The Road to Serfdom”?… no way Jose. 

Now if I could only make two questions on Piketty’s book these would be:

Would Piketty have written the same Capital in the Twenty-First Century in the absence of QEs and TARP which obviously helped to keep the wealth… or if profits derived from protected intellectual rights had been taxed at a higher rate that profits derived from competing naked in the market?

Where does Piketty think all inherited but dissipated wealth has gone? Is he unaware of the real difficulties of keeping the value of an inheritance?

The economic impact of a “too big to fail" bank's” failure is monstrous, even if it had 100% equity.

Sir, I refer to Martin Wolf’s “‘Too big to fail’ is too big to ignore” April 16.

Wolf, like many, questions whether a 5 percent leverage ratio, and which translated into layman terms signifies a 19 to 1 debt to equity ratio, can be enough. Of course it is not!

That said the fact remains that if a monstrously big bank fails, in terms of its overall economic impact, whether it has 100% equity or 100% debt, is sort of marginal… wealth destroyed is wealth destroyed no matter how its financed. Clearly, the distribution of a loss matters but, for instance, would the world be sustainably better off, if it the one percenter’s lost all they had?

And so, out of three recommendations the IMF makes, just like Wolf I think the most important is to “reduce the probabilities of distress”.

And how is that done? As you well know in my opinion that requires committing to the dustbin of bad memories, the risk-weighing of capital requirements for banks.

The risk-weighing means that banks earn different risk-adjusted returns on equity on different assets, and this distorts all common sense out of the overall important credit allocation function of the banks.

Even worse, the current system guarantees that banks will have especially little capital when they encounter those icebergs which have always sunk bank systems, when cruising in waters perceived as “absolutely safe”.

And, here is a reminder. It does not matter whether the too big to fail banks allocates 100% correctly its resources, if the rest of the banking system doesn’t, since that way, the well behaved too big to fail, will anyhow go down, sooner or later, because there is no such thing as a stable banking system in a lousy and unstable real economy.

What current regulators do not understand is that making the banks safe begins by not distorting the allocation of credit, which they do!

The real losses of a banks, except perhaps for interest rates mismatch, do not occur on the liabilities and equity side of the balance, but on the asset side  

PS. With relation to the subsidies of TBTF banks there is some inconsistency, as some could argue that a subsidy could be necessary to keep these from failing. And even if labeled TBTF, banks are little or not subsidized at all by the markets, could that not be an indication of how fallible markets believe their rescuers to be?

PS. Sir, just to let you know, I am not copying Martin Wolf with this, as he has asked me not to send him any more comments related to the capital requirements for banks, as he understands it all… at least so he thinks.

April 15, 2014

Yes, “whatever it takes”… as long as we do not have to admit our mistake

Sir, you write about Mario Draghi and Mark Carney, the past and the current chair of the Financial Stability Board, supporting asset securities, as a mean to “revive lending to small businesses still struggling to borrow from banks, “Bundled debt will quicken recovery”, April 15.

It would make much more sense to just reduce the capital requirements banks need to hold when lending to small businesses, based on the fact that “risky” small businesses, when compared to “infallible” sovereigns and members of the AAAristocracy, pose an almost nonexistent risk to the banking system.

But no, we can’t have that, because that would mean that they as regulators would have to admit to the mistake they made with the risk based capital requirements for banks and which they have managed to keep hushed up for many years now.

Yes Sir, the small businesses might receive more credit through securitization, but not at lower interests, the high margins will, as always, remain there in order to feed the securities packaging apparatus.

PS. Regulators, the capital (equity) you should require the banks to have is against unexpected losses, not against expected losses.

April 14, 2014

What bankers do regulators expect to tell their shareholders, “we should go for lower risk adjusted returns”?

John Authers argues that “Push to beat rivals overtakes good economic sense” April 14. Of course it does!

That is why banks, while the illusion of safety persists, must primarily lend to or invest in what is perceived as absolutely safe, because there is where regulators allow them to hold the least capital, and so there is where they can earn the highest risk-adjusted rates of return they need in order to compete with other bankers doing the same… and this even when they all know that long term it all amounts to pure lunacy. 

And if they do not do so, the risk for the banker to be kicked out, or for his bank to be bought out, is just too large... Regulators, it is as easy as that!

If there is no great improvement on the youth unemployment front, Greece has no choice but to default.

Sir, Wolfgang Münchau writes that “This could be the moment for Greece to default” April 14. But when reading that “the rate of its youth unemployment in 2013 stood at 60.4 percent”, unless there has been much true progress on this front lately, the question would seem to be whether Greece has any other option.

When Münchau asks “who in their right mind is going to make a long term investment in a country with unsustainable long term debt?”, let us not forget that the most important long term investors in Greece are and should always be, the Greek youth.

By the way, as Münchau mentions “a new currency”, if I was a young unemployed Greek debating about staying or not staying in my country, I would run if what they come up with is for Greece to institute a new Drachma.

When deconcentrating power beware of that you do not just concentrate it somewhere else.

Sir, no distribution on earth can do as much to combat inequality, as the fight against too much power concentration, whether that happens in the government or in the market. And so Yes! Edward Luce is completely correct when he writes that “The power of US cable barons must be challenged” April 14, good for him!

But, I would personally have left out the term “baron”, which because its association to “robber” shows a bit of unnecessary ill will; and before sort of favoring “municipal broadband” solutions I would like to be completely sure that a Great-National-Municipal-Broadband network is entirely ruled out, since when deconcentrating power you really want to avoid concentrating it somewhere else.

April 13, 2014

Banks need to be made more useful, meaning less distorted when allocating credit to the real economy

Sir, I refer to your “Banks should be made more solid” April 12.

Like you I welcome the introduction of the “leverage ratio” which will require banks to hold capital against assets, independently of perceived risk. And like you I am astonished banks could argue that a 5% leverage ratio, which in essence translates into an authorized 19 to 1 debt equity ratio, is too much for them… of course, arguing that a 3% leverage ratio, a 32 to 1 debt equity ratio is too much, blows anyone´s mind.

But, unfortunately, the regulators, as tyrannical experts, unable to admit to their mistakes, intend to keep in place a layer of risk-weighted capital requirements, and so the regulatory distortions will only continue.

I believe that much better for all, would be to make certain that a leverage ratio really applies to all assets, and abolish to just being bad memories, those risk-weighted capital requirements which only serve to amplify the negative consequences of insufficiently, and of excessively, perceived risks.

Of course, in the long term, once the real economy has recovered, regulators should try for banks to reach an 8% leverage ratio, that which is equivalent to the capital requirements established in Basel II for a 100% risk weighted asset.

As an aide memoire, the dangers the distortions in credit allocation produced by risk weighting are:

For the stability of the banking system, as it produces larger exposures than what should ordinarily exist, to what is erroneously perceived as “safe”, and then, when the real ex post risk reveals itself, banks stand there with less safety capital than what they ordinarily would have.

For the real economy, by causing many borrowers who are not perceived as that safe but who would ordinarily merit having access to bank credit, in competitive terms, to be denied it.

One question I dare John Authers not to pass over.

Sir, John Authers in “Four questions markets should not pass over” April 12, includes the following two: “Why are Treasury yields falling, when all other times when the Federal Reserve has prepared to raise interest rates, they have risen?” and “Why can Greece successfully borrow on the markets once more, when it is barely two years since it partially defaulted and nearly left the euro?”.

In response I would ask John Authers to respond: Could the fact that banks need to hold basically zero capital against those two assets, while they must hold 7 to 8 percent against any assets perceived as “risky”, have anything to do with it?

April 11, 2014

Are car loans with adequate risk premiums to "risky" citizens really riskier than loans to “infallible” sovereigns?

Sir Gillian Tett, jogging our memory with the problems of mortgages linked to subprime borrowers, expresses concern for that subprime, even so called “deep subprime” car loans have been growing too much lately, “American subprime lending is back on the road” April 11. Poor her, she need not to worry, these loans are completely different from those loans that were so badly awarded because they could be dressed up in AAA clothing.

But she is indeed right when stating that “cheap money has a nasty habit of creating distortions in unexpected places”. Just look at all those of her colleagues who now suggest government should take advantage of extraordinarily low costs of finance in order to do so much more. That ignores that the cost of those currently so low interest rates, in much a direct result of the fact that banks do not need to hold much capital against loans to the “infallible” sovereigns, will most likely be paid by the lenders in the future, by one or another sort of financial repression.

No Martin Wolf, excessive trust in the government is the real dangerous delusion of the ignorant.

Sir, Martin Wolf writes: “The authorities can affect the lending decisions of banks by regulatory means – capital requirements, liquidity requirements, funding rules and so forth. The justification for such regulation is that bank lending creates spillovers, or ‘externalities’. Thus, if many banks lend against the same activity – property purchase for example… [it] might lead to a market crash, a financial crisis and a deep recession.” “Fear of hyperinflation is a delusion of the ignorant”, April 11.

Oh boy has Martin Wolf got things wrong! Who created the “externalities” that caused the recent crisis? Would there have been so many bad property loans dressed up in AAA clothing, or bad loans to Greece, had regulators required banks to hold as much capital against these assets as what they needed to hold when lending to for instance a small business? Of course not! No Wolf, I assure you, excessive trust in the government is not only the real delusion of the ignorant, and it’s also extremely hazardous to his wellbeing.

I am sure waiting for his explanation of why it would be better to leave the creation of money, and presumably the channeling of it, in the hands of the state and not in the hands of properly regulated and not distorted private profit seeking businesses. Why do I get so often get the feeling that Martin Wolf is a closet communist?

PS. Sir as always, I will not be copying Martin Wolf with this comment since he has asked me not to send him any more comments related to the capital requirements for banks, as he understands it all… at least so he thinks.

April 10, 2014

When restructuring the World Bank you might want to start even higher than its presidency.

Sir, I refer to your editorial “Restructuring hell at the World Bank”, April 10.

You end it stating “If there is a silver lining to the bank’s turmoil, it is this: the Bretton Woods Institutions belong to the world. From now on, they must be headed by the best people available”

Not so fast! When presenting my book Voice and Noise, May 2006, in which I reflected on my experiences as an Executive Director of the World Bank, 2002-2004 this is what I said:

“Although we proudly name ourselves the World Bank, the fact is that we are more of a “Pieces of the World Bank”, with 24 Executive Director representing parochial interests. As a consequence I sadly had to conclude in that the World itself, call it Mother earth if you want, in these times of globalization, is in fact the Bank’s most underrepresented constituency.

This needs to be fixed, urgently, as we need to be able to stimulate a profoundly shared ownership for the long-term needs of our planet; that is if we want to survive as a truly civilized society worthy of the term civilization. As I see it, adding a couple of truly independent seven-year-term Executive Directors, whose role would be to think about the world of our grandchildren, way beyond the 2015 of the Millennium Development Goals—could be what the World Bank most needs now.”

And Sir, I still stand by that. 

The way the World Bank’s Executive Directors are nominated by ministries, does not guarantee the existence of sufficient intellectual and independent diversity at the Board. And that is the number one condition that needs to be satisfied in order for any international finance institution, to become something more than a well intended mutual admiration club, run by an also well intended management in natural pursuit of their own and perhaps even more parochial objectives.

PS. I have been asked by a representative of the civil society, whatever that now means, to add some additional straight to the point explanations of what I mean, and so here it is:

1. I guarantee that if one Joe the Plumber or one Nancy the Nurse, selected through lottery from 25 plumbers or 25 nurses, substituted for one of the 25 current executive directors, chosen also by lottery, we would have a 75% chance of ending up with a more commonsense and wise Board of Executive Directors at the World Bank, and less than a 1% chance to end up with something meaningfully worse.

2. If the Basel Committee for Banking Supervision (or perhaps the IMF) had counted with one biologist or an expert in the contagion of diseases, they would never ever have introduced something as dumb as the risk-weighted capital requirements for banks which, besides distorting the allocation of bank credit, amplify dramatically the consequences of any insufficient or any excessive ex ante perception of risk. And the world would have been saved from the current crisis. The ongoing intellectual incest is so bad that even 7 years after the outburst of the crisis they still do not realize what they have done.

3. With reference to William Easterly’s 'The tyranny of experts', the real nightmare is to be in the hands of a group of similar experts on the same subject.

4. One of the best ways to control for the dangers of group-think, is to subject the group to the authority of some who is guaranteed not to belong to the group, and has no reason for wanting to belong to the group.

PS. Whenever you click on to social media, say this little prayer: “Please God, save me from becoming a victim of intellectual incest

April 09, 2014

More than sovereign credit ratings we might need sovereign ethic ratings.

Sir, last week in an Op-Ed I published in Venezuela titled “Creditors of Venezuela, read our Constitution!” I wrote: “In the same way there are international conventions that help foreign investors to collect what governments duly owe them, there should be agreements that help citizens not to be saddled with the payment of debts incurred by governments who violate their constitutions.”

That is exactly what should happen to those that Michael Holman refers to in “Investors in corrupt ‘new Africa’ repeat old errors”, April 9.

Neither creditors nor investors should receive any help to enforce their commercial rights if it can be proven they did not fulfill their moral duties of making reasonable sure human rights violations and acts of corruption were present. More than sovereign credit ratings we might need sovereign ethic ratings...and to make these count.

Because of regulatory subsidies, banks are taking over what remains of safe havens, leaving other in the arms of risk.

Sir, John Plender writes about an “extraordinary demand for unsafe assets”, “Time is running out for the central bank riggers”, April 9.

It is not that it explains it all but, besides the quantitative easing that Plender mentions, much is caused by the fact that banks have been subsidized, by means of extraordinarily low capital requirements, to populate (overpopulate - dangerously) the ever scarcer safe havens.

Where pension funds and small time investors in need of maximum security used to go, that’s where the banks are today. What are now us normal risk avoiders to do? How can you compete with banks for a real positive rate, in what seems safe, if banks are allowed to leverage 20-30 times when going there?

April 08, 2014

Mario Draghi’s ‘whatever it takes’ does not contain what it takes to save Europe’s economy

Sir I refer to Gideon Rachman’s “‘Whatever it takes’ may not be enough to save the euro” April 8. I do not opine about the euro or even Europe, but since I am sure that Mario Draghi’s “whatever it takes” does not include getting rid of the risk-based capital requirements for banks that so distorts the allocation of credit, I know it will at least not save the European economy.

Unfortunately, Mr. Draghi, like so many other, seems unable to admit to this monstrous regulatory mistake that he, as a chairman of the Financial Stability Board, have endorsed for many years… and that’s what it would take to stand a fighting chance.

As is European banks are to drown in increasingly dangerous excessive exposures to "infallible sovereigns", the housing sector and the AAAristocracy, while the job creating medium and small businesses, entrepreneurs and start-ups, are like old soldiers fading away because of the lack of bank credit.

Sir, the dumb and sissy bank regulators of the Basel Committee, pose a bigger threat to Europe than let us say about 10 Russian Putins put together.

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.”

April 07, 2014

If Wolfgang Münchau is right, is it not better for Italy to default and get it over with?

Sir, Wolfgang Münchau writes that “no matter what Mr Renzi achieves [Italy] would be headed for certain default if the eurozone’s future inflation rate were to fall from a previous average of 2 per cent to 1 percent”, “Europe’s new boys face a tough fight on austerity”, April 7.

If Italy defaulting or not depends on Europe producing inflation is true, which I hope it is not, since it seems to convey the bad message that Italians are not the masters of their own future, would it not be better for Italy to default, clear the air, and start afresh? I mean this because arguing that Italy needs inflation to repay its debt, is to say that Italy will actually, de facto, default, through inflation, in real terms, on all those holding Italian debt.

And I also say these because Münchau writes that he “fails to see how the alternative can be made to work” that of a “primary surplus – before interest payments –of at least 5 percent on average for 20 years”.

To kick-start growth we need foremost to get rid of regulatory distortions

Sir, again: Allowing banks to hold different capital against different assets, because of perceived risks which have already been cleared for through by other means, translates directly into banks earning different risk adjusted returns on equity for different assets.

And Sir, again, I argue that this dangerously distorts the allocation of bank credit to the real economy.

And on this, and on other problems closely related to current bank regulations, I have written way over 1.000 letters to FT. With the exception of “Free us from imprudent risk-aversion”, an article which Martin Wolf kindly allowed me to publish on the Economist Forum blog, my argument has been silenced.

Why? No matter how obnoxious, impolite or in need of deodorant I might seem to you… is it ethical of FT to ignore my arguments?

And I believe that it partly is because of you having censored my argument, that now, more than six years into the crisis, we have Professor Lawrence Summers, in reference to the world’s primary strategy of easy money”, explaining that this is among other “to place pressure on return-seeking investors to take increased risk”, “What the world must do to kick-start growth” April 7.

Wrong! The pressure, at least for banks, is for these to take cover in “absolutely safe” assets and which, thanks to the regulator, are those which provide them with better risk-adjusted returns.

Thanks to these mindboggling bad regulations, the banks of the world are building up dangerously large exposures to what is perceived as “absolutely safe”, while at the same time holding, what for the real economy is equally dangerous, way too small exposures to what is perceived as “risky”.

If there is anything the world must do to kick-start growth that is getting rid of those incentives which stands in the way of banks lending to the “risky” medium and small businesses, entrepreneurs and start-ups.

April 06, 2014

We must stop bank regulators from building a long-term jobless trap

Sir, a banker stands in front of two doors, one is “the infallible” the other is “the risky” Until not so long ago he would take any of the doors which provided him with the highest expected risk adjusted return on equity, considering the interest rates, the size of exposure and all other contractual terms.

Not any longer. After regulators, with their risk based capital requirements, allowed the banker to put in much less equity when he opened “the infallible” door than when he opened “the risky” door, very rarely does he enter the risky door, because very rarely will those behind that door be able to provide him with risk adjusted ROEs as high as those borrowers behind “the infallible” door.

And unfortunately the truth is that much, or perhaps even most, of that kind of sheer dumb luck the economy must have in order to find new long-term employment opportunities, hides behind “the risky” door.

And that Sir is what I most miss in Tim Harford’s “The long-term jobless trap” April 5. If you allow bank regulators to introduce dumb and almost sissy risk aversion into the banking sector, you are actually allowing them to build a long-term jobless trap… where many are bound to fall into, sooner or later.

After taxing the social capital wealth represented by Facebook followers, do we then tax FT’s social capital?

Sir, I am pleasantly surprised you dared to publish Hans Byström’s creative and provocative proposal of taxing the social capital wealth represented by the followers on Facebook, “Tax the socially wealthy too!” April 5. I mean from that there is very little distance to taxing the immense social capital wealth of the Financial Times, with its influential editor and columnists, and its many readers.

If that tax on FT could be used, for instance to increase the voice of a smalltime blogger like me, that would definitely help to combat what at least I perceive to be a monumental unjust inequity. 

That said, and even if he comes from my own Alma Mater, Lund University in Sweden, I must argue with Professor Byström. What he holds to be social capital, number of followers, is just sort of gross earnings. Since all followers at Facebook do not necessarily have an equity interest in your well being, they might just as well represent liabilities, the final net social capital from being followed in Facebook can in fact also be enormously negative. A tax credit?

April 05, 2014

Europe, before aiming at the dragon with unconventional QE, go back to conventional bank regulations which do not distort.

Sir, I refer to your “Taking aim at the dragon of deflation” in which you so much favor QEs of any kind, even if you would have to, quite shamelessly, twist the obvious intentions of European law, April 5.

Deflation is a much a result of retrenchment, retrenchment in much a result of risk aversion, and Europe’s current risk aversion very much the result of capital requirements for banks, which allow these to earn higher risk-adjusted returns on equity when lending to “the infallible” than when lending to “the risky”.

Those highly unconventional bank regulations are poisoning Europe and so, before digging Europe further down into the ground, with for example QEs, you must return to conventional bank regulations that do not distort the allocation of bank credit to the real economy.

April 04, 2014

By taxing more the profits derived from patents you might, on the margin, reduce conflicts between true inventors and trolls.

Sir, Richard Waters discusses that delicate issue about a too rigid or too lax patent allocation system and so rightly states “The trouble is, one person’s abusive troll is another’s deserving inventor”, “Tech industry opens a Pandora’s box of patent strife”, April 4.

One way to diminish the conflict might be to reduce, on the margin, the worth of patents and other intellectual protection.

Since some years I have for instance argued that it does not really fair that profits obtained by competing naked in the market, without any safety net, should be taxed at the same rate as profits derived from an activity that has the protection of a patent… especially when the government is expected to spend tax revenues in its protection.

Entrepreneurship is based on the risk-taking which is impeded by dumb and overly sissy bank regulators.

Sir, Daniel Pinto concludes his letter “Entrepreneurship belongs at the heart of western businesses”, April 4, by stating “The west is suffering from a chronic Entrepreneurial Deficit Disorder”.

Indeed and if we understand that entrepreneurship is foremost based on risk taking, and consider that bank regulators, with their risk weighted capital requirements, allow banks to earn much higher risk adjusted returns on equity on “absolutely safe” exposures, than on “risky” exposures, it should not be difficult to understand why the west has entered into a death spiral.

Ms Tett, in the case of “derivatives”, their biggest danger lies in how delightfully sophisticated they sound!

Sir, Gillian Tett writes about “the mortgage credit derivatives that proved so deadly in that credit bubble”, “The female face of the crisis quits the spotlight” April 4.

One of the problems with understanding our way out of this crisis, are all those who wants us to chase anything they cannot explain, like the sophisticated sounding derivatives. And that stands in the way of attacking the real easy straightforward “vanilla” problems which caused the crisis.

As an example, that which “proved so deadly”, were real securities backed up with different tranches of very real though utterly badly awarded mortgages, something which has nothing to do with derivatives. And the reason these securities, if AAA rated, became so attractive they blinded the markets, was that banks, according to Basel II, could hold these against only 1.6 percent in capital… meaning being able to leverage their equity 62.5 time to 1.

Again what had problem loans to Greece, Spain’s real estate sector, Cyprus’ banks and much else to do with derivatives?

Let me try to explain the issue in my words. In derivatives you always have a winner and a loser, and in this sense, with exception made for the very serious counterparty risk, and which in itself is not a derivative risk but a normal credit risk, what derivatives do, is to redistribute the profit and the losses… in other words they are a wash out.

It is only the losses in the values of real assets which can create the real losses which can cause serious recessions. We should never forget that… while we keep allowing our banks to incur into dangerously large exposures to “ultra-safe” real assets… like infallible sovereigns and the AAAristocracy.

April 02, 2014

A positive carry over financing, on zero bank capital… is that not an infinite return on equity?

Sir, I refer to Christopher Thompson´s and Claire Jones´ “Eurozone banks load up on state debt” April 2.

There we find: “The Basel II rules allow regulators to treat sovereign debt as risk free, meaning banks do not have to hold any capital against it” and “Banks were given a chance to borrow at 1 percent from the ECB, invest in sovereign debt… and earn a positive carry.”

Is this not what I have been screaming my heart out over for more than a decade? Like when in November 2004 you published a letter of mine in which I asked… “What will it take before the Basel Committee starts realizing the damage they are doing by favoring so much bank lending to the public sector? In some developing countries, access to credit for the private sector is all but gone, and the banks are up to the hilt in public credits”

Sincerely, if you are in the hands of bank regulators, or financial journalists, who do not understand that the risk based capital requirements for banks has to produce different risk-adjusted returns on equity, which utterly distorts the allocation of bank credit to the real economy… I have to feel pity for all of us… of the Western World.

April 01, 2014

All triple-A ratings are doomed to be downgraded, sooner or later.

Sir, Ralph Atkins and Keith Fray report “Triple A government debt ratings fall as financial crisis takes toll” April 1. It could not be any other way as all triple A ratings are doomed to be downgraded.

The fact of combining the implied safety of a triple A rating with lower capital requirements for banks when holding such debt guarantees that, sooner or later, those so rated will receive too much debt in too lenient conditions, and will then wake up to a disaster.

In 2002 in an Op-Ed titled “The riskiness of country risk" I wrote: “What a difficult job sovereign credit rating is! If they overdo it and underestimate the risk of a given country, the latter will most assuredly be inundated with fresh loans and will be leveraged to the hilt. The result will be a serious wave of adjustments sometime down the line. If on the contrary, they exaggerate the country’s risk level, it can only result in a reduction in the market value of the national debt, increasing interest expense and making access to international financial markets difficult. The initial mistake will unfortunately turn out to be true, a self-fulfilling prophecy. Any which way, either extreme will cause hunger and human misery.”