FT, do you really think bank regulators know what they are doing? Wake up!

Sir, Izabella Kaminska reminds us of “the fact that information is not the same thing as knowledge” “Imperfect information dims the vision of a digital utopia” September 27.

And she refers: “In a new paper, Nobel-winning economist Joseph Stiglitz, building on decades of work on the economics of information, argues that the information paradigm being promoted by technologists could — if left unregulated by government — lead to the sort of market distortions that constrain welfare creation and innovation for the long term.” 

Hold it there! Government regulations can also “lead to the sort of market distortions that constrain welfare creation and innovation for the long term”

Just look at how the regulators imposed risk-weighted capital requirements for banks that completely distorted the allocation of credit to the real economy.

Sir, do you really think bank regulators know what they are doing? Wake up! They have no idea.

Here two questions:

1. What are the risks banks could build up such excessive exposure to the below BB- rated so that, if the ex ante perception of super riskiness turned out ex post even more risky, that could cause a major bank crisis?

2. What are the risks banks could build up such excessive exposures to the AAA rated so that, if the ex ante perception of super safety turned out ex post wrong, that could cause a major bank crisis?

Hint! Mark Twain described a banker as he who wants to lend out the umbrella when the sun shines and wants it back as soon as it looks like it is going to rain.

Ponder now on that our bank regulators, in their own 2004 standardized Basel II risk-weights, assigned to the first possibility a risk weight of 150%, and to the second, one of only 20%.

Meaning that banks, given a basic capital requirements of 8%, when lending to the below BB- rated needed to hold a reasonable12% of capital, while when lending to the AAA rated, they were only required to hold a sliver of 1.6% in capital.

Meaning that banks, when lending to the below BB- rated, could only leverage some reasonable 8.3 times while, when lending to the AAA rated, they were allowed to leverage their capital (equity) a mindboggling 62.5 times.

Sir, do we really deserve such feeble minded regulators? If not, why do you keep supporting these?

@PerKurowski