Hayek and Keynes would have stood arm in arm against different capital requirements for bank assets based on perceived risk.

Sir, we have the world in financial turmoil as a direct consequence of regulators having allowed banks to hold extremely little capital, 1.6 percent or less, when lending or investing in what was officially perceived as “The Infallible” while requiring the banks to hold 8 percent against any exposure to “The Risky”. And yet five years after the crisis outbreak we can still read comments, by for instance Robert Sutherland Smith, that attribute this crisis to a universal banking which was supposedly freed in the “name of Hayekian neoliberalism”, “Bitter harvest of Hayekian neoliberalism”, December 27. 

In “free banking”, though there is of course different capital costs for different risk structures, there is no such thing as different capital requirements based on the perceived risk of the different individual assets of a bank, and Hayek would never ever have approved of such distorting regulatory stupidity. When will the underlying political agendas allow for that to be understood? 

And of course Lord Keynes, and who wrote “There is no objection to be raised against the classical analysis of the manner in which private self-interest will determine what in particular is produced, in what proportions the factors of production will be combined to produce it, and how the value of the final product will be distributed between them”; and who was an aggressive and able speculator on his own, would also fiercely have opposed such folly.

But neither would Lord Keynes have agreed with the bank regulators' super potent bubble blowing machine

Sir, Jeffrey Sachs writes “Hayek was prescient: a surge of excessive liquidity can misdirect investments that lead to boom followed by bust” “We must look beyond Keynes to fix our problems” December 18.

Absolutely, but add to that the fact that bank regulators, by means of capital requirements based on perceived risks, also decided to direct, through the banks, most of the excessive liquidity to “The Infallible”, like the AAA rated or prime sovereigns, and you will be able to better understand what an incredible bubble blowing machine has been created, because, of course, there is never a boom and a bust in what is perceived as “risky”, these always happen where it is perceived to be absolutely safe.

But neither should we imply that Lord Keynes would have agreed with what the regulators were up to, he was much too intelligent for that. Anyone who wrote “There is no objection to be raised against the classical analysis of the manner in which private self-interest will determine what in particular is produced, in what proportions the factors of production will be combined to produce it, and how the value of the final product will be distributed between them”, cannot have approved of the crazy idea of bank regulators doling out risk-weights in order to determine different capital requirements for banks.

And Keynes, an aggressive speculator in the stock market, who for instance obtained what has been termed as impressive but volatile capital growth of King´s College Chest Fund, knew very well about the importance of risk-taking… definitely not like our bank regulators whose bedroom fantasies are about a world with no risks and absolutely no volatility.

Poor small businesses and entrepreneurs of Europe who need access to bank credit in competitive terms

Sir, Martin Wolf writes that in Europe, bank assets in 2010 were 350 percent of GDP and holds that “Liikanen is at least a step forward for EU banks”, October 5. I totally disagree. 

When the banking sector is so important, it is even more important to make sure that there are no distortions in how it assigns its resources, and so, wasting precious time taking steps forward, without even mentioning the huge regulatory distortion which exists, less acting on it, is just as wrong as it can be. 

Wolf now agrees with “the skepticism on risk-weighting”, and now holds that “much higher un-weighted equity requirements are needed”. Though late, that is good. Unfortunately Wolf argues his support based on “given the experience of its limitations”, which means that had the crisis not erupted he would find no fault in a regulatory framework that is so fundamentally wrong.

Regulations with capital requirements which allow banks to leverage their equity 60 times and more with assets considered ex-ante as not risky, earning higher returns on equity, but only 12 times for normal banking assets like loans to small businesses and entrepreneurs because these are officially ex-ante considered “risky”, even though these assets have never ever caused a crisis, amounts to an unbelievable distortion of the economy. 

I read, in Wikipedia, that Martin Wolf was influenced by Friedrich Hayek’s “The road to serfdom”. Sadly it looks like he was not influenced enough so as to understand that allowing petty bank regulating bureaucrats, play risk managers for the world by assigning risk-weights, places us precisely on that road. 

In the foreword of “The road to serfdom” Hayek explains that he writes the book which will negatively affect his own personal life, “out of duty”, because the majority of economists have…been silenced by their official positions, and that in consequence public opinion on…problems is to an alarming extent guided by amateurs and cranks, by people who have an axe to grind or a pet panacea to sell. 

Well out of the same sense of duty, and of course also with personal sacrifices, I will endure in criticizing what I consider to be absolutely crazy bank regulations. Just to think how much more in interest rates to pay or lesser access to bank credit, the small European businesses and entrepreneurs will have to suffer, only because of these regulations, precisely when we most need them to create jobs, makes me cry. 

Please, for the time being, at least while European bank capital is rebuilt, half at least the capital requirements for banks when lending to the “risky”. That will never represent a risk superior than having the European banks lending excessively to what is officially perceived as “absolutely safe”.

Yep 9 different credit ratings per security would do it!

Sir Roman Frydman, Michael Goldberg and Edmund Phelps tell us that “We must not rely solely on the rosiest ratings” October 20, and that “No single individual or institution can render a definitive judgment on the riskiness of securities. Friedrich Hayek showed that only markets can aggregate knowledge that is not given to anyone in its totality”, which is of course absolutely right.

But then they tell us “Rating agencies and issuers of securities have to help the market perform this function” and in order to do so “when assessing an asset, agencies should be required to report at least two ratings and the methodology used to arrive at each: one assuming that historical patterns will continue and at least one other assuming the reversals in the trends of major variables” which is of course totally incongruous with their first statement.

Unless their idea is to have the credit rating agencies reporting so many scenarios that they dilute themselves in a sea of irrelevance… Yes, that is an idea on how to get rid of the credit rating agencies without having to tell them so. Let us ask for nine scenarios covering the range between an AAA and a Caa2!

Let us also free the development experts!

Sir William Easterly, himself a development expert, after reading the report of the World Bank Growth Commission, tells us to trust the people, instead of development experts, “Trust the development experts – all 7bn of them” May 29.

Easterly bases his conclusions on Friedrich Hayek’s teachings on the need of freedom for “multitudinous individuals to figure out their own answers” arguing that experts cannot impose this freedom from the top down. He is right but having, as a former Executive Director of the World Bank 2002-2004, witnessed myself how the risk aversion of those who manage the business of development; the vested interest of those who hire the development experts, the governments; and the experts own often non functional peer reviews all conspire against creativity and promotes useless development jargon, we should not forget that the experts are also in need of much more freedom.