January 27, 2015

The World Bank’s bias against banks taking risks hurts the poor they want to help.

Sir, I refer to Michael Holman’s “The World Bank fails to credit the intelligence of the world’s poor” January 27.

It discusses the results of a very much commendable study carried out by the World Bank, when trying to establish how the bias of its professionals’ might influence the assistance it provides.

Holman concludes: “The consequences of bias are profound. The poorest in the world may be doubly burdened. Not only do they fight a daily battle against poverty. They may well have to cope with policies of well-meaning aid donors that owe more to the bias of those who frame them, than to the knowledge of those who are supposed to benefit from them.”

Indeed, that happens. As an Executive Director of the World Bank 2002-2004, and also from all what I later read in many of its reports, I concluded that one of the most dangerous biases of the World Bank, is its bias towards risk aversion. That is reflected primarily by its inability to criticize those Basel Committee bank regulations that are based on credit-risk-weighted equity requirements.

It is truly ironically that the world’s premier development bank, which should be the first to understand that risk-taking is the oxygen of any development, keeps mum on regulations which allow banks to earn much higher risk adjusted returns on equity when financing what is perceived as safe, mostly the history, than what is perceived as “risky”, mostly the future.

That is mindboggling sad. Of course banks need to take risks, like lending to small businesses and entrepreneurs. You must allow the animal-spirit resources to work with. And that is why the society must lend some support to bank depositors, for when the risk-taken by a bank might become excessive.

To support banks instructed to avoid risks as much as possible, seems to me an exercise in futility that should have a chance to enter the Guinness book of records. 

PS. As an example, in April 2003, when discussing the World Bank’s Strategic Framework 2004-2006 at the Executive Board, I urged: “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."