March 29, 2017

0% sovereign & 100% SMEs risk weights, implies public bureaucrats use bank credit better than the private sector.

Sir, you write: In 1986, New York’s parks department had failed to rebuild the Central Park ice skating rink, despite spending $13m and six years on it. Mr Trump offered to get the job done for $3m. The mayor accepted. The project was completed in six months and under budget” “Why business cannot make government great” March 29.

So, if the building of the ice-skating rink were financed, the public sector would have needed way over $13m in finance to build the Central Park ice-skating rink, and the private sector perhaps less than $3m.

And yet, regulators, when deciding how much capital banks need to hold, those $13m of the public sector, if financed by banks, would be assigned a 0% risk weight while, if $3m was lent to the not-credit rated private sector, that would have to carry a risk weight of 100%.

That would allow banks to leverage much more their equity with loans to the public sector than with loans to the private sector; which allows banks to earn higher expected risk adjusted returns on equity when lending to the public sector than when lending to the private sector; which translates into banks lending more to the public sector than to the private sector than what would have been the case in the absence of these regulations; which de facto means the regulators must think government bureaucrats are able to use bank credit more efficiently than the private sector.

Sir, since you have decided to keep mum on the extreme statist character of current bank regulations, it seems you opine the same.

You write: “Good government is efficient. It is also equitable and transparent and accountable to the broad electorate”. I ask, are the current discriminatory risk weighted capital requirements for banks that so much favor the sovereign “equitable and transparent and accountable to the broad electorate”? The answer must be a resounding NO!