January 18, 2018

Why do FT reporters refuse to implicate regulators and their risk weighted capital requirements for banks in the 2007-08 crisis?

Sir, Patrick Jenkins writes: “As a correspondent in Frankfurt in the early 2000s, I saw first-hand how a sector that had grown fat on government-supported AAA credit ratings, turned hubristic. The situation was at its worst — and most dangerous — after the EU pressured Berlin to end the government guarantee regime in 2005. That ruling prompted the banks to raise three years’ worth of money in the bond markets within a matter of months. It gave them vast investment resources to deploy just at the time when Wall Street and the City of London were aggressively pushing complex collateralised debt obligations underpinned by sub-prime mortgages and other nominally safe, but ultimately toxic, products to anyone that would buy them”, “The role of dumb money in Carillion’s crash”, January 18.

Amazing! Jenkins does not mention the fact that in June 2004, with Basel II, the Basel Committee approved a risk weight of only 20% for all private sector debt rated AAA to AA. That, with a basic capital requirement of 8%, meant banks needed to hold only 1.6% in capital against what was so rated; which meant the banks could leverage a mind-blowing 62.5 times with such assets.

It was pure regulatory lunacy! And the same loony regulators are still at it. How FT’s journalists and experts can keep so mum on the role of dumb and irresponsible regulations escapes me.

Jenkins refers to “complex collateralised debt obligations underpinned by sub-prime mortgages and other nominally safe” What a BS. These were AAA rated securities, that was what the market and bankers saw.

In January 2003 the Financial Times published a letter I wrote and that ended with: “Everyone knows that, sooner or later, the ratings issued by the credit agencies are just a new breed of systemic error to be propagated at modern speeds. Friends, please consider that the world is tough enough as it is.”

PS. FT, Jenkins, do yourself a favor. Go to all banks that had any involvement with Carillion and carefully research how much capital they held against exposures to it, before the blow-up. And ask to have a look at their equity requirements’ minimizing sophisticated risk-models, or at any “superficial credit analysis” … and don’t just naively believe anything they tell you.