September 29, 2016
Sir, in the UK as in most other countries banks have been given the following instructions by their regulators:
If you invest in something safe, like lending to a good sovereign, lending to those with very high credit ratings, or financing residential houses, then you are allowed to hold little capital. That means that you then will be able to leverage your equity and the support society awards you a lot; meaning that you then will be able to earn high expected risk adjusted returns on equity.
But, if you invest in something risky, like lending to SMEs and entrepreneurs, then you need to hold more capital. That means that you then will be able to leverage less your equity and the support society awards you; meaning that you then will probably earn lower expected risk adjusted returns on equity.
Sir, those instructions clearly guarantee that bank credit will not be allocated efficiently to the real economy. Those instructions lead to the dangerous overpopulation of safe havens, and for the economy to equally dangerous under exploration of the riskier but perhaps more productive bays. Those instructions stop banks from financing the riskier future, making them only refinance the safer past. Those instructions will waste, or in some cases even make worse, all what stimulus like QEs, low interest rates, fiscal deficits and other are supposed to help and correct.
On this subject I have written Mr. Martin Wolf literally hundreds of letters over the last decade. Mr. Wolf besides kindly allowing me to publish on his Economists’ Forum in October 2009 an article titled “Free us from imprudent risk aversion”, has completely ignored the subject of the distortions caused by the Basel Committee’s regulations.
In July 2012 Wolf wrote that when "setting bank equity requirements, it is essential to recognise that so-called “risk-weighted” assets can and will be gamed by both banks and regulators. As Per Kurowski, a former executive director of the World Bank, reminds me regularly, crises occur when what was thought to be low risk turns out to be very high risk."
That was a reference to part of my arguments that I of course much appreciate but, as can be seen, it had only to do with how useless these regulations are in terms of guaranteeing bank stability.
Now I find that Mr. Martin Wolf quite lugubriously writes: “If the UK is to thrive economically, it will not be enough for it to manage Brexit, hard though that will surely be. Its policymakers must also start from a realistic assessment of the UK’s mediocre performance. This is no world-beating economy. It is not even a Europe-beating economy, except on creating what are too often low-wage jobs. It will have to do far better if it is to deliver the higher living standards its people want in the tougher environment ahead.” “Economic ills of the UK extend well beyond Brexit” September 29.
Sir, I just wonder, is it not time that Mr Martin Wolf looks into the possibilities that little me might have a point… and not only for the UK?
I mean it could be quite timely given the upcoming annual meetings of the IMF and World Bank in Washington and in which Mr. Wolf will again moderate a couple of events, one on inequality and one on jobs, both themes affected by the regulatory distortions.
PS. Unfortunately this year like last, I will not be in Washington so as to be able to participate as civil society and express my concerns there, also for the umpteenth time.