June 09, 2015

Europe has not yet learned the lesson that Greece, the first dead canary in the European mine offers… it must.

Sir, Francesco Giavazzi holds that Europe has spent way too much time and concerns on Greece, “Greeks chose poverty — let them have their way” June 10.

Indeed they have, but, unfortunately, they have still not learned the lesson Greece has to offer.

Greece got into trouble because even though no one really trusted its government it got too much credit. Why? Because regulators allowed banks all over to lend to Greece against minimum capital requirements, something that offered the expectations of very high risk adjusted returns on bank equity; something which therefore resulted too tempting.

And Greece has not been able to get out of there problems. Why? Because banks suffering scarcity of capital can still lend to Greece’s overinflated and over-indebted government against less capital than that what they are required to hold if lending to a Greek SME.

In 1988, the Basel Accord decided that for purpose of weighing the capital requirements for banks, the risk weight of a sovereign was zero percent while the risk weight of the private sector was 100 percent... which de facto also meant they considered that any government bureaucrat would be able to use bank credit more efficiently than a SME. At that moment a deadly venomous gas started to invade many economies… and Greece is just the first canary in Europe to drop… and, if nothing’s done to stop that gas, others will follow… until all are dead.

Europe you choose too risk-adverse regulators... wake up before its too late!