Draghi does not deserve independence. The shackles that most need to come off are those of the European economy.

Sir, you write: “the European economy is still dependent on large troubled banks that have little ability or inclination to boost economic activity”, “Draghi fights a battle for independence at the ECB” January 15.

Why cant’ you say it like it is? European banks are instructed, in de facto very clear terms; by means of portfolio invariant credit risk weighted equity requirements, not to care about boosting economic activity, not to finance a risky future, but to stay put financing the safer past.

The best ECB could do to help boost economic activity is to make sure the discrimination against the fair access to credit of small businesses and entrepreneurs is eliminated. But, since that would best be carried out increasing the equity requirements on what is perceived as “safe”, it would leave a tremendous hole in the banks that cannot and would not be filled fast enough by the markets. And that is where the ECB could step in subscribing important amounts of interim bank equity that is resold to the markets over time.

To do so would require explaining how regulators create the problem, and Draghi, as a former Chair of the Financial Stability Board, does not seem a likely candidate for a sufficiently expressed and explained mea culpa.

Action on this front is urgent… think of all the loans that have not been given in Europe, to those Europe most need to have credit, since Basel II was approved in June 2004.

You end concluding that “It is high time the shackles came off” Indeed, but not those of Draghi, or so much those of the ECB, most urgently those of Europe’s economy.

Let the credit rating agencies rate, and us learn, again, just to take the credit ratings for what they are.

Sir with respect to your “Holding the rating agencies to account” November 6, there are only two alternatives: 

One is the caveat emptor route of taking the credit ratings for what they are, always subject to the possibility of human fallibility, of one or any sort, and always subject to some uncertainness which is very hard or even impossible to measure, and all for which the ratings should be handled with care. In this case, the best regulators can do, is to append a label stating: “Warning: excessive reliance on credit ratings can be extremely dangerous to the health of your portfolio.” And, the worst thing what regulators can do, is precisely to give the ratings the credibility and importance these were given in Basel II. 

The other route is that of “we must make them work” no matter what. Yes, if a credit rater had just gone out of his office for one single day to see how the mortgages that formed part of the securities he was rating, these would not have been AAA rated, and that I swear. But, since the rater preferred the comfort of his office to the subprime suburbs¸ just as you and I do, he did not go there. And so should he now be sued? Perhaps, but if you hope to get something remotely substantial out of him, you must hope he is able o enlist the support of Bernanke and Draghi. 

And here is the “sophisticated” Financial Times going for the second option and writing “Things will only change once ratings are regulated more rigorously and paid for by investors rather than issuers”. I am amazed that FT has descended into such primitive naiveté… just for starter what would a credit rating cost if the raters needed to insure themselves against any sort of malpractice. 

Really, if anyone should be held accountable in this case that should be the bank regulators, they must have known the risks. In a letter that you yourself published in FT in January 2003 I told them that “Everyone knows that, sooner or later, the ratings issued by the credit agencies are just a new breed of systemic errors, about to be propagated at modern speeds” 

No! Let the credit rating agencies rate, and us learn, again, just to take the credit ratings for what they are.

PS. The current S&P and Kroll duet “Anything you can rate, I can rate better I can rate anything better than you No, you can’t Yes, I can” 

The Martin Wolf Inconsistency

Sir, Martin Wolf ask for “Radical policies for rebalancing Britain’s economy” November 2. In it he again favors the government to be less austere, “the case for a reconsideration of fiscal policy remains strong” and the banking sector, even though loans have contracted immensely, to be more restricted, “the case for much lower leverage is far stronger than in normal times”. Why the inconsistency? The only explanation possible is that Wolf is a firm believer that government spending allocates the resources with more economic efficiency than what banks with their credits can do. 

And yes, in many ways Wolf is correct, because regulators, by means of their capital requirements for banks based on ex ante perceived risk, exerted so much influence favoring “The Infallible” and thereby discriminating against “The Risky”, that the banks have indeed not allocated their credits in an economic efficient way. But, the solution for that should be less government intervention, not more! 

“Rebalancing?” Yes! But, Sir Mervyn King, how about rebalancing first between “The Infallible” and “The Risky”?

In this respect, for the umpteenth time, Wolf would say “monotonously”, I hold that one of the most important challenges for the UK, Europe and America, is to work themselves out of that silly bank regulatory risk-aversion, which caused and causes the banks to dangerously overpopulate safe-havens and, equally dangerous, at least for the society and the economy, to under exploit the more risky but more productive bays, like small businesses and entrepreneurs. 

Martin Wolf, when he writes “Equity targets [for banks] should be set in pounds”, and although he probably loathes admitting it, shows that he finally begins to understand how the capital requirements for banks perceived on risk distorted the economy,. 

Unfortunately, to get rid of those distortions is not as easy as Wolf would like it to be, in order for that issue to go away fast. You simply cannot attract the so much needed new bank equity, by introducing prohibitions to pay dividends subjectively set by regulators. You need to design a credible transition plan so that any new bank investor knows what he can expect tomorrow. And, to do that, you need to put at work fresh regulatory minds not encumbered by past mistakes. 

And so, before messing with tools like depreciating a currency (buying foreign low-risk assets?), in a world were so many currencies wish for depreciation, I suggest that UK, America and Europe draw up a careful plan, acceptable to future bank investors, for how to allow the banks again to take a chance on “The Risky”, those that in truth made the UK, Europe and America what they are. 

To me that plan should pursue making banking more of a safer and lower rate of returns utility, and so able to attract more widows and orphans like funds. For the rest of the economy to prosper, we must make banks be a lower returns affair.

Draghi is just desperately kicking the can down the road

Sir, Michael Steen ends his report “Draghi expands role in fight to save euro” November 1, quoting Jörg Krämer, Commerzbank’s chief economist saying “If there is a breakthrough, the history books will write about Draghi as the hero who gave the reforms time to work”. I truly cannot understand what fundamental reforms he refers to. 

What caused this crisis was that banks, by means of very low capital requirements, were given too large incentives to acquire huge exposures to “The Infallible”, like to Greece, triple-A rated and real estate, and therefore too large disincentives to lend to “The Risky”, like the small businesses and entrepreneurs. And¸ given that bank capital is becoming scarcer day by day, the distortions those capital requirements produce are only increasing. 

To save the euro, Europe and America alike, it is not enough to save the banks you must save the economy, and that is not done by discriminating against "The Risky". This Mr. Draghi seems not to have understood at all and so to me he is not saving anything, he is just desperately kicking the can down the road.

To break Italy’s, Europe’s and America’s vicious circle, their current central bankers and regulators should resign.

Sir, Giulia Segreti and Guy Dinmore report that “Italy’s central bankers fears ‘vicious circle’” November 1. That is Italy’s Europe’s and America’s problem, that their central bankers are not even aware that they already find themselves in the most vicious financial circle ever, only because of their own bank regulatory doings. That vicious circle goes like this: 

It starts with regulators foolishly trying to avoid bank failures by allowing banks to hold less capital when lending to those perceived as less risky “The Infallible” than when lending to those perceived as “The Risky”. 

That signifies that “The Infallible” will have access to bank credit more generously, cheaper and in easier terms than what would otherwise have been the case. While likewise “The Risky” will have less access to bank credit, will have to pay higher interest and need to accept harsher terms. 

And that signifies that “The Infallible”, like the AAA rated, real estate sector and sovereigns (like Greece) little by little will over-borrow and turn into huge unmanageable risky assets, while “The Risky” like small businesses and entrepreneurs will not be financed, and so there will be little of the new sturdy economic growth, and jobs, they can help to provide. 

And when it explodes there will be less and less safe havens were banks, because of the lack of equity, need to take refuge… and we all know what happens to a safe haven when it gets to be overpopulated. 

So if central banker fears a vicious circle, perhaps the best they can do to break it, is to resign and let a new generation of regulators take over. 

And if little me was one of those regulators, the first thing I would for the time being suggest doing, is to cut in half, at least, the capital requirements for banks when lending to small businesses and entrepreneurs. And that I would do in the perfect knowledge that I need their help to rescue the economy and create jobs, and that “The Risky” have never ever caused a major bank crisis, only “The Infallible” do that when they… sooner or later, always fail.

If Draghi is the European Central Bank’s sharpest tool I pity Europe

Sir, Ralp Atkins holds that “Draghi’s resolve is European Central Bank’s sharpest tool” October 31. 

To me Mario Draghi is one of those utterly failed regulators who believed for instance that banks should be allowed to leverage their equity 62.5 to 1 when lending to those officially perceived as “The Infallible”, for instance Greece, but kept strictly to 12.5 to 1 leverage when lending The Risky, like European small businesses and entrepreneurs. And so, in this respect, if Draghi is the sharpest tool, I can only pity Europe, that tool can only keep on cutting it into pieces. 

As I have said so many times, if little me had anything to do about helping the eurozone or Europe out (or the US too) , the first thing I would do is to make certain that those most capable of saving the economy had access to bank credit in the best of terms. And that would mean that while bank equity remains so scarce, I would dramatically lower the capital requirements for banks when lending to “The Risky”, and slowly increasing these for all, until that odious and stupid regulatory discrimination in favor of “The Infallible” has been completely eliminated. 

To inject funds in any way shape or form before the distortions on how those funds will flow through the economy has been eliminated, all that is achieved is wasting away extremely scarce fiscal and monetary policy space.


PS. For those who do not know Mario Draghi was since April 2006, until 2011, the Chairman of the Financial Stability Forum, later the Financial Stability Board. And this is something I had to say about the FSF in 2008.

What would the consequences be for failed bank regulators if failed air-traffic controllers or cruise ship captains?

Sir, Kara Scannell, in the analysis on US housing, “After the gold rush”, October 30, with respect to the mortgage frauds writes: “Critics say that prosecutors have gone after easy targets – low level fraudsters - while going easy on Wall Street executives whose banks packaged billions of dollars worth of toxic mortgage securities.”

Indeed, and though it might be difficult to condemn any one of those executives for something illegal, by now we should at least have had on the web a list of the 20 most important toxic mortgage packagers, so as to be able to shame them.

But, that said, and since for me the subprime mortgage mess was a direct consequence of the regulators having created irresistible temptations for banks to holding any AAA rated securities, namely allowing them to hold these securities against only 1.6 percent in capital, the first thing that should have happened, is for these regulators to be sent home, in utter disgrace. But that has not happened.

Not only is the name of most regulators unknown to us, but some of them have even been put in charge of drawing up new regulations, Basel III, and others promoted, like for instance Mario Draghi, from being Chairman of the Financial Stability Forum, later the Financial Stability Board, to being the President of the European Central Bank. Amazing!

But let me be even clearer about what I mean:

In November 2004, in a letter published by the Financial Times I wrote: “Our bank supervisors in Basel are unwittingly controlling the capital flows in the world. How many Basel propositions will it take before they start realizing the damage they are doing by favoring so much bank lending to the public sector (sovereigns)?”

But yet, even if a little me, not a regulator nor a banker, could have been sufficiently preoccupied about the excessive lending to sovereigns to write that, the regulators allowed the banks in some cases to lend to sovereigns against zero capital, and for a sovereign rated like Greece was, required the bank to hold only 1.6 percent in capital. That signified allowing a bank to leverage its equity some mindboggling 62.5 times to 1 when lending to Greece.

And so let me just ask: what would have happened to airport controllers or cruise ship captains who had made mistakes of this exorbitant nature, and caused damages as huge as this financial crisis?

I have absolutely nothing personal against any of the regulators, and I do not know any one of them. But what I I do know is that if we are going to have bank regulations with a global reach, like those produced by the Basel Committee for Banking Supervision, we absolutely need those regulators to be held much more accountable for what they are up to.

Yes the credit rating agencies let the regulators down... but it was they who gave the credit rating agencies such an excessive importance and they should have known; again as little me wrote in another published letter January 2003 in FT: “Everyone knows that, sooner or later, the ratings issued by the credit agencies are just a new breed of systemic errors, about to be propagated at modern speeds

Yes they can argue they trusted the financial models too much… but that is not an excuse. If little me, presumably not more a financial modeler than they were, in a written formal statement delivered as an Executive Director of the World Bank, in October 2004, could warn: “[I]believe that much of the world’s financial markets are currently being dangerously overstretched through an exaggerated reliance on intrinsically weak financial models that are based on very short series of statistical evidence and very doubtful volatility assumptions” they should also have been suspicious about the models.

Why is it so hard to get off the ship of fools you are travelling on?

Sir, Gillian Tett suggest quite correctly that “Merkel & Co should think about the ‘humiliation factor” October 19, ending with “Otherwise, the national psychologies could turn more pathological. 

And, probably the best way to avoid the feeling of humiliation of some European countries getting out of hands, God knows with what consequences, is to explain the shared responsibilities of all Europe for what is happening. 

Unfortunately the distortions produced by the capital requirements for banks based on ex-ante perceived risk are not discussed. And these so harmful regulations were approved not by Spanish, Greek or Irish regulators, but by the Basel Committee for Banking Supervision. 

In truth had the Basel Committee not existed Europe, and America, might be suffering another type of crisis, but not this one, and absolutely not one so systemic. And it is as easy as that, as in 1999 in an Op-Ed I wrote:

“The possible Big Bang that scares me the most is the one that could happen the day those genius bank regulators in Basel, playing Gods, manage to introduce a systemic error in the financial system, which will cause [its] collapse.” 

Now courtesy of regulators who want our banks to be coward, and do not allow these to be brave financing a brave real economy, Europe and America are voyaging on a ship of fools, and obviously, on a ship of fools, anything could happen. 

How sad FT and its experts got on that ship and refuse to get off. Why?

You’ve got to be kidding. Did you really hope the economy could recover sturdily without banks taking risks on the “risky”?

Sir, FT’s Special Report, World Economy, October 12, subtitles “Hopes turn to fear and uncertainty”. 

But it was regulatory risk-adverseness that saddled our banks with excessive exposures to what was ex ante officially perceived as not risky, because that required much less capital than lending to the risky, which set off this crisis. In other words, there was an excessive regulatory fear of the “risky”. 

And so what “hopes” do you refer to? That we could get out of this monstrous economic imbroglio by continuing having fearful regulators telling the banks to avoid more than ever taking a chance on those perceived as “The risky” and concentrate all their lending on “The Infallibles”? While government simultaneously injected money in the economy as there was no end to it? You’ve got to be kidding! Did you really hope that would work? 

No. Hope means understanding the need for risks and being willing to take these. While your banks are governed by regulators with a sick attitude toward risk, we are simply doomed. 

That the “world economy was hamstrung by uncertainty, which was preventing companies from investing” as Olivier Blanchard of the IMF says, sounds like a cruel joke to me. Just consider how much bank regulators have hamstrung the banks from lending to the risky small businesses and entrepreneurs, by, in times of huge scarcity of bank equity, requiring the banks to hold much more equity when doing so, than when lending to infallible sovereigns. 

And FT has not been willing to call out the sissines of that! “Uncertainty”? Ha! As if economic growth could be turned into a riskless affair? Where did you, and the banks regulators you seemingly so much admire, get such a crazy idea?

I was so naïve, but I must insist on being so naïve, since I do not know any other way.

There I was, a small financial and corporate strategy consultant from a small developing country, completely, 100 percent sure, that the bank regulators of the developed countries were getting it completely, 100 percent, wrong. And so I decided to write letters about it to the Financial Times, hoping... no! absolutely certain that they would pick up and help divulge my arguments. 

But, little did I know, about how big weak egos could stand in my way.

How long will the media Gurus block the truths? Why do not old tired “Gurus” do like old soldiers, and just fade away?