November 26, 2016

Spreads between sovereign debts are also a function of different bank capital requirements.

Sir, you write: “The spread between German 10-year bond yields and those of France and Italy has widened, reflecting concerns over political instability.” “US bond yields receive a boost from fiscal policy” November 26

That might be so, but you should not exclude that it could also have to do with the possibilities of changes in credit ratings, as these would impact the risk weights that partly determine the capital requirements of banks.

Germany is rated AAA with a zero risk weight and is far away from a higher risk weight.

France rated AA, has also a zero risk weight, but is closer than Germany to the next level of risk weights, 20%

Italy is rated BBB-, with a 50% risk weight, and if it loses that rating, its next risk weight would be 100%... with great consequences for banks.

Sir, as you see, the spreads between sovereign debts are not only a reflection of markets, but also a reflection of regulatory distortions.

How anyone can think that subsidizing the borrowings of a sovereign, with lower capital requirements for banks, is helpful for the real economy is beyond my comprehension, unless of course one is a runaway statist. 

At least in Greece, 100% risk weighted, banks have now to hold the same amount of capital when lending to that sovereign, than when lending to a Greek SME. Had it been that way all the time, Greece would not have suffered its recent crisis.