February 27, 2017

BoE’ Sam Woods, like all current Basel Committee bank regulators, is in serious breach of the do-no-harm fiduciary rule.

Sam Woods, deputy governor for prudential regulation at the Bank of England discusses the differences in calculating the capital requirements for banks in which “Larger firms typically use internal models” and “Smaller or younger groups typically use standardised weights” and “there can be large disparities between the two calculations” “Our financial standards benefit everyone” February 26.

Sir, did you see that Venezuelan amateur showing off his total absence of cross-country skiing skills in an international setting? One Venezuelan who confessed to similar difficulties told me that he at long last completely identified with a Venezuelan sportsman. I replied “Indeed, but with his difficulties of understanding how deep his amateurism is, he also reminds me of the current Basel Committee inspired bank regulators”. 

Sir, anyone who has some capital to invest, needs to assess the individual risks of assets, from the perspective of how well it fits into his portfolio. Any adviser who would tell an investor to only look at the individual risks, like current bank regulators do with their risk weighted capital requirements, would be in serious breach of any sort of fiduciary rule. 

Here are some of their “standardized” risk weights extracted from Basel II. Sovereigns 0%, AAA rated 20%, not rated (the usual SME) 100% and below BB- 150%.

As a result banks, because when doing so they are allowed to leverage more and so obtain higher risk adjusted returns on equity, are de facto being instructed to lend to what is perceived, decreed (or concocted) as safe; and to abstain from lending to what is perceived risky, without any consideration to their portfolio… and without any consideration to the credit needs of the real economy.

In case you doubt me, I invite you to read “An Explanatory Note on the Basel II IRB Risk Weight Functions”. It specifically states that the risk weights are portfolio invariant, since it otherwise “would have been a too complex task for most banks and supervisors alike.” 

Sam Woods writes: “The first job of the Prudential Regulation Authority is to keep the UK banking system safe and sound.”

“Safe and sound” Hah! The regulators, with their foolish and so unwise credit risk aversion, only cause our banks to no longer financing the riskier future but only refinance the safer past; while guaranteeing that some “safe-haven” (like AAA rated securities and Greece), sooner or later will become dangerously overpopulated, and it will all crash, again and again.

Now, Woods inform us “the PRA will look at capital requirements in the round rather than assuming that a simple “sum of the parts” approach will necessarily deliver the right answer.”

Sir, should these failed regulators be given a chance to dig our banks further into a hole, by now doing what they previously told us was too complex for them? I don’t think so. They have clearly breached their do-no-harm fiduciary duty to society way too much! Better get rid of them all and take refuge in something simple, like a 10 percent capital requirement against all assets. 

But, when doing so, remember that taking our banks from here to there is also fraught with great dangers, especially if guided by those who cannot understand, or do not want not to admit to where these banks come from.