February 10, 2018

Loss aversion has bank regulators looking too much at the cost of the crisis, while ignoring the benefits of the whole boom-bust cycle.

Sir, Tim Harford writes: The concept of “loss aversion” developed by Daniel Kahneman and Amos Tversky…showed that we tend to find a modest loss roughly twice as painful as an equivalent gain… Those who were forced to evaluate and decide at a slow pace were… not intimidated by short-term fluctuations… less likely to witness losses.”, “The languid pleasures of slow investing” February 10.

That is precisely what happens when bank regulators go into action during a crisis; they just look at the losses, and completely ignore what good might have been achieved during the whole boom-bust credit cycle.

And that is why our regulators in the Basel Committee, panicking, imposed risk weighted capital requirements for banks, which pushes debt that relies more on existing servicing capacity, like financing “safe” houses, than debt that hopes to generate new revenue streams, like loans to “risky” entrepreneurs.

And we all know there’s little future in that!

Harford ends with: writes: “Perhaps we slow investors should adopt a mascot. I suggest the sloth” Indeed, and let us send a stuffed one to Basel.