May 02, 2015

Why does Martin Wolf keep mum about an important regulatory inequality driver he must know of by now?

Sir, when Martin Wolf, May 2, discusses two books on inequality in a “World of difference” and makes some suggestions of his own, there is one difference he does not refer to.

Regulators, with their different equity requirements based on perceived credit risks, allow banks to earn higher risk-adjusted returns on equity when financing those who already have something, and therefore can much easier be perceived as good credit risks, than when financing those who have nothing, and therefore can much easier be perceived as risky.

That clearly diminishes the opportunities of those who have nothing to get something, and thereby de-facto constitutes an important inequality driver.

It surprises me to see that someone like Martin Wolf keeps mum on that, even though he knows, or at least should know, that never ever has lending to those who have nothing, those who are perceived as risky, created a major bank crisis. Why such silence?

Perceived credit risks are all about expected losses. And bank equity is all about a buffer against unexpected losses. To use expected losses as a proxy for the unexpected, which is what regulators currently do, is simply stupid. Could it be that FT’s chief economic commentator has too many good friends among the regulatory elite?

PS. Martin Wolf writes: “Underlying these complex trends [of increased inequality], argue the authors, are complex economic forces... financial liberalization”. Let me ask: to distort immensely with regulations the allocation of bank credit to the real economy, is that “financial liberalization”?