June 26, 2018

Flags need also to be raised, when influential multilateral financial institutions help to blow up bubbles

Agustín Carstens, the general manager of the Bank for International Settlements writes: “A decade of unusually low interest rates and large-scale central bank asset purchases may have left many market participants unprepared, and contributed to a legacy of overblown balance sheets” “It is precisely when pressure starts to build that flags need to be raised” June 26.

Indeed, but to that we should add the presence of extraordinary low capital requirements for banks when lending to what’s perceived as safe, like to house buyers and sovereigns. These have helped to explode the exposure to this type of loans, as well as distort the signals sent to the markets, something that of course has also helped to inject a lot of liquidity. 

Carstens also opines: “At the BIS, we have come to appreciate how unrewarding it can be to flag risks when markets are running hot. Yet that is precisely when risks tend to be highest.” 

Indeed, that is the same difficulty all influential institutions like the IMF face since, whenever they flag a risk, they could be accused for helping to set off a crisis. But now they all have themselves to blame for making the flagging problem so much worse. By assigning risk-many sovereigns a risk weight of 0% they painted themselves into a corner. When you know that risk weight is absolutely wrong, how do you go about to change it without scaring the shit out of the markets?