What if the State of Maryland USA, where I live, was treated by the Fed as Italy is by its EU bank regulators?

Sir, Tony Barber writes: “Paradoxically, as Italy’s debt has ballooned in size, it has become more manageable. Particularly over the past two years, the crucial factor has been European Central Bank support” “Reforms and ECB help are key to Italy debt sustainability” February 25.

Although already Maryland, as all other US states is already treated quite (too) generously by bank regulators, since it cannot print dollars on its own, the capital banks need to hold when lending to it, do at least depends on its credit ratings. 

Not so in the Eurozone. Though none of its sovereigns, like Italy, can print euros on their own, and independent of their credit ratings, the banks in EU can lend to all Eurozone sovereigns, against zero capital. Something much agreed by and pushed by Mario Draghi.

It’s been hard for me to understand, especially after Brexit, why FT has kept so much silence on this Eurozone’s sovereign debt ticking bomb.

@PerKurowski

About Italy, there are serious questions that FT, and others, should not silence.

Sir, I refer to “Draghi plots €221bn rebuilding of Italy’s recession ravaged economy” Miles Johnson and Sam Fleming, and to “Europe’s future hinges on Italy’s recovery fund reforms”, Andrea Lorenzo Capusella, FT April 22, and to so many other articles that touch upon the issue of Italy’s future, in order to ask some direct questions.

Do you think Italy’s chances of a bright future lies more in the hands of Italy’s government and its bureaucrats, than in hands of e.g., Italian small businesses and entrepreneurs?

I ask this because, with current risk weighted bank capital requirements, regulators, like Mario Draghi a former chairman of the Financial Stability Board, arguably arguing Italy’s government represents less credit risk, do de facto also state it is more worthy of credit. I firmly reject such a notion.

Yes, Italy clearly shows a stagnant productivity, but could that be improved by in any way increasing its government revenues?

Italy, before Covid-19, showed figures around 150% of public debt to GDP and government spending of close to 50% of GDP. I am among the last to condone tax evasion… but if Italian had paid all their taxes… would its government represent a lower share of GDP spending, and do you believe its debt to GDP would be lower?

One final question: Sir, given how Italy is governed, excluding from it any illegal activities such as drug trafficking, where do you think it would be without its shadow eeconomy, its economia sommersa? A lot better? Hmm!

PS. As you know (but seemingly turn a blind eye to), Italy’s debt, even though it cannot print euros on its own, has, independent of credit ratings, been assigned by EU regulators, a 0% risk weight.

The doom loop between government and banks was created by regulators.

Sir, I refer to Martin Arnold’s “Soaring public debt poised to heap pressure on eurozone, ECB warns” May 27

For the risk weighted bank capital requirements, all Eurozone sovereigns’ debts have been assigned a 0% risk weight, and this even though none of these can print euros on their own. Would there be a “doom loop” between governments and banks if banks needed to hold as much capital when lending to governments as they must hold when lending to entrepreneurs? Of course not!

In a speech titled “Regulatory and Supervisory Reform of EU Financial Institutions – What Next?” given at the Financial Stability and Integration Conference, in May 2011 Sharon Bowles, the then European Parliament’s Chair Economic and Monetary Affairs opined:

“I have frequently raised the effect of zero risk weighting for sovereign bonds within the Eurozone, and its contribution to removing market discipline by giving lower spreads than there should have been. It also created perverse incentives during the crisis.”

In March 2015 the European Systemic Risk Board (ESRB) published a report on the regulatory treatment of sovereign exposures. In the foreword we read:

"The report argues that, from a macro-prudential point of view, the current regulatory framework may have led to excessive investment by financial institutions in government debt. 

The report recognises the difficulty in reforming the existing framework without generating potential instability in sovereign debt markets. 

I trust that the report will help to foster a discussion which, in my view, is long overdue.

Mario Draghi, ESRB Chair"

Six years later, and now even more “long overdue”

What the Eurozone would need a common budget the most for, is to help rescue many of its members from their huge risky 0% risk weighted sovereign debts.

Sir, Martin Arnold reports that Mario Draghi, “the outgoing ECB boss repeated his call for eurozone governments to create a sizeable common budget that could be used to provide greater economic stability in the 19-member currency zone by supporting monetary policy during a downturn.” “ECB chief Draghi uses swansong to call for unity” October 29.

As I see it the eurozone, unwittingly, already had a sizable non transparent common budget, namely that of, for purposes of risk weighted bank capital requirements, having assigned to all eurozone sovereigns’ debts, a 0% risk-weight, even though none of these can print euros on their own.

Some of these sovereigns used that privilege, plus ECB’s QE purchases of it, to load up huge debts at very low interest rates, so as to spend all that money. Now things are turning hard for many of these. Greece was small and walked the plank, and had to mortgage its future. Italy might not be willing to do so. There is a clear redenomination risk, and it is being priced more and more. 

So when Draghi now says “We need a euro area fiscal capacity of adequate size and design: large enough to stabilize the monetary union” it is clear he is very subtle referring to the dangers of the euro breaking down.

But when Draghi mention that fiscal capacity should be designed as not “to create excessive moral hazard”, then its harder to understand how that moral hazard could be worse than that already present in that idiotic 0% risk weighting.

What is clear is that for a eurozone common budget to serve any real purpose, those privileged 0% risk weights have first to be eliminated.

Just like it is hard to see some states with good credit standing accepting a 0% risk weight of other in much worse conditions, it would be difficult to explain for instance to Germans why their banks need to hold around 8% in capital when lending to German private entrepreneurs, but no capital at all when lending to the Italian or Greek governments.

How to do that? Not easy but my instincts tell me it begins by allowing banks to keep all their current eurozone sovereign debts exposures against zero capital, but require these to put up 8% of capital against any new purchases of it. That would freeze bank purchases, put a pressure on interest rates to go up, and allow the usual buyers of sovereign debt to return to somewhat better conditions.

But, of course, that might all only be pure optimistic illusions, and all eurozone hell could break out. 

@PerKurowski

Does Christine Lagarde really know about the zero risk weighting of eurozone sovereigns bomb?

Sir, Anne-Sylvaine Chassany writes how Christine Lagarde was interrogated in 2016 about an incident while she was the finance minister in France, related to a vital memo she missed, and which led to herfailing in “preventing an allegedly fraudulent €403m state payout”. “Although spared prison and a fine, she was found guilty of negligence, though the court decided the conviction would not constitute a criminal record” “Lagarde’s lesson in how to deal with imposter syndrome” July 10.

That must have been a very uncomfortable experience for Ms. Lagarde. And in this respect I wonder if she has for instance read what Sharon Bowles the then European Parliament’s Chair Economic and Monetary Affairs Committee opined in 2011?

In a speech titled “Regulatory and Supervisory Reform of EU Financial Institutions – What Next?” given at the Financial Stability and Integration Conference, 2 May 2011 Bowles said: 

“I have frequently raised the effect of zero risk weighting for sovereign bonds within the Eurozone, and its contribution to removing market discipline by giving lower spreads than there should have been. It also created perverse incentives during the crisis.”

Sir, that was eight years ago… and Mario Draghi or anyone else did not defuse that bomb and so it is still ticking.

A zero risk weighting of any sovereign bond, for purposes of bank capital requirements anywhere is lunacy to me, as it de facto implies believing that government bureaucrats know better how to use bank credit they are not personally liable for, than for instance entrepreneurs. But, when it is assigned to sovereigns who take on debt denominated in a currency that is not their domestic printable one, as is the case in the eurozone, then it goes way beyond lunacy.

Anne-Sylvaine Chassany writes that againChristine Lagarde faces a chorus of doubters. Ms Lagarde is not a monetary policy specialist or an economist by training, skills which, in a perfect world, ought to be part of the job description to succeed Mario Draghi at the helm of the European Central Bank.

That is of little concern to me; there should be more than enough monetary policy specialist or economists and, seeing what many of them have been up to lately, perhaps even too many. 

But does Ms Lagarde really know what she is getting into? Does she really think she can help defuse that zero risk weighting for eurozone sovereign bonds bomb that, if it explodes, will take down the euro, and perhaps the European Union with it?

Someone should ask her that. That is many times more important than the vital memo she missed seeing. Why not the Financial Times?

But then again would anyone really be able to defuse that bomb?

PS. Perhaps the title of this should be "Does Christine Lagarde know she might be on a suicide mission?

@PerKurowski

If a firefighter had seen an explosive artifact, and not done anything in four years to defuse it, would he still be a paid firefighter?

Sir, as you might understand from my many letters to you I agree with most of what Ian Hirst opines on Martin Wolf’s article (“Weidmann casts a shadow over the ECB”, June 13) “ECB must end conjuring tricks and begin a structural overhaul” June 19.

Sadly though, no matter how “rock solid the political support for the euro is, it might already be too late, even for Jens Weidmann, to do all that needs to be done to correct the mistakes Hirst hints at.

Hirst writes: “As Mr Wolf points out, the German public, in particular, need to be told some home truths. The euro has greatly benefited their economy (while greatly damaging competitors in southern Europe). It does not work without some transfer and debt support elements, mainly funded by Germany and the Netherlands.”

100 percent correct but I ask, are they able to manage the whole truth? Included that of German banks being able to hold loans to for instance Greece and Italy against zero capital while being required to hold eight percent in capital or so when lending to an unrated German entrepreneur?

Sir, in March 2015 Mario Draghi wrote the foreword to an ESRB report on the regulatory treatment of sovereign exposures. In it he said “The report argues that, from a macro-prudential point of view, the current regulatory framework may have led to excessive investment by financial institutions in government debt. [It} recognizes the difficulty in reforming the existing framework without generating potential instability in sovereign debt markets, as well as the intrinsic difficulty of redesigning regulations so as to produce the right incentives for financial institutions… I trust that the report will help to foster a discussion which, in my view, is long overdue.”

PS. “Long overdue”? We are now in June 2019 and I ask, has the Financial Times seen Mario Draghi or the ECB doing anything about the still ticking 0% Risk-Weight Eurozone Sovereign Debt Privilege bomb? 

PS. "the current regulatory framework may have led to excessive investment by financial institutions in government debt" March 2015. Why did it take so long and why did they need research to only suspect that?

The still ticking 0% Risk Weight Sovereign Debt Privilege bomb awaits Mario Draghi’s successor at ECB

Sir, Martin Wolf, sort of implying Mario Draghi followed his recommendations, which of course could be true, holds that “Draghi did the right things, above all with his celebrated remark in July 2012 that ‘within our mandate, the ECB is ready to do whatever it takes to preserve the euro’”. “Jens Weidmann casts a shadow over the ECB” June 11.

Did Draghi resolve that crisis for the better, or did he just postpone it for the worse?

That’s is not at all clear. In March 2015 the European Systemic Risk Board (ESRB) published a “Report on the regulatory treatment of sovereign exposures.” Let me quote from its foreword:

“The report argues that, from a macro-prudential point of view, the current regulatory framework may have led to excessive investment by financial institutions in government debt. 

The report recognizes the difficulty in reforming the existing framework without generating potential instability in sovereign debt markets. 

I trust that the report will help to foster a discussion that, in my view, is long overdue.” Signed Mario Draghi, ESRB Chair

The regulatory aspect that report most refers to is, for purposes of risk weighted capital requirements for banks (and insurance companies), the assignment of a 0% risk weight to all Eurozone sovereigns. 

Though the report states that: “Sovereign defaults… have occurred regularly throughout history, including for sovereign debt denominated and funded in domestic currency”, it does not put forward that all these eurozone sovereign debts are denominated in a currency that de facto is not a domestic printable one of any of these sovereigns.

Since Mario Draghi seems to have done little or nothing since then to diffuse this 0% Sovereign Debt Privilege bomb, which if it detonates could bring the euro down, and with it perhaps EU, this is the most important issue at hand. 

So when choosing a candidate to succeed Draghi as president of ECB the question that has to be made is whether that person is capable enough to handle that monstrous challenge. Who is? Jens Weidmann? I have no idea.

Sir, it would be interesting to hear what Martin Wolf would have to say to the new president of ECB about this. What would a “Do what it takes” imply in that case? 

PS. And when Greece was able to contract excessive debt precisely because its 0% risk weight should not the European Union have behaved with much more solidarity, instead of having Greece walk the plank alone?

PS. If I were one of those over 750 members of the European Parliament here are the questions I would make and, if these were not answered in simple understandable terms, I would resign, not wanting to be a part of a Banana Union.

PS. "The current regulatory framework may have led to excessive investment by financial institutions in government debt." Really?

PS. Is there a way to defuse that bomb? Perhaps but any which way you try presents risks. One way could be to allow all banks to continue to hold all eurozone sovereign debt they current posses, against a 0% risk weight, until these mature or are sold by the banks; and, in steps of 20% each year, bring the risk weight for any new sovereign debt they acquire up until it reaches 100%... or more daringly but perhaps more needed yet set the risk weight for any new sovereign debt acquired immediately to 100%, so as to allow the market to send its real messages. 

The same procedure could/should be applied all other bank assets that currently have a risk weight below 100%, like for instance residential mortgages.

Would it work? I don’t really know, a lot depends on how the market prices the regulatory changes for debt and bank capital . But getting rid of risk weighted bank capital requirements is something that must happen, urgently, for the financial markets to regain some sense of sanity.

PS. An alternative would be doing it in a Chilean style. Being very flexible with bank capital requirements, even accepting 0%, even having ECB do repos with banks non-performing loans: BUT NO dividends, NO buybacks and NO big bonuses, until banks have 10% capital against all assets, sovereign debts included.

PS. I just discovered that Sharon Bowles, MEP, 
Chair Economic and Monetary Affairs Committee
 of the European Parliament, in a speech titled "Regulatory and Supervisory Reform of EU Financial Institutions – What Next?
 at the Financial Stability and Integration Conference,
 2 May 2011, said the following:

“I have frequently raised the effect of zero risk weighting for sovereign bonds within the Eurozone, and its contribution to removing market discipline by giving lower spreads than there should have been. It also created perverse incentives during the crisis.”

That is very clear warning that something is extremely wrong... and yet nothing was done about it.

PS. And in 2015 the European Commission also described the problem with the zero-risk weighted sovereign debts within the eurozone.

PS. https://perkurowski.blogspot.com/1998/11/burning-bridges-in-europe.html

PS. In Financial Times 2004: “How long before regulators realize the damage, they’re doing by favoring so much bank lending to the public sector? In some countries, access to credit for the private sector is all but gone, and the banks are up to the hilt in public credits”

The empowerment of the Bureaucracy Autocracy

“Assets for which bank capital requirements were nonexistent, were what had most political support: sovereign credits. A simple ‘leverage ratio’ discouraged holdings of low-return government securities” Paul Volcker

@PerKurowski

There are issues much more important for the future of the euro and the EU than who becomes Draghi’s successor at ECB

Sir, Wolfgang Münchau holds that “Draghi’s successor needs intellectual curiosity and a willingness to admit errors” “How not to select the next ECB president” June 3.

Of course, that should be a sine qua non quality of all candidates. The real problem though is that anyone chosen to become the new president of ECB could get trapped in a web of groupthink, and solidarity requirements, which impede the admittance of the mistakes.

Therefore, before choosing the next president some questions vital to the future of the euro and EU need to be made, not only to denounce mistakes, but to listen what the candidates have to say about it.

For instance if I was a newly elected first time European Union parliamentarian, at the first opportunity given I would ask: 

Fellow parliamentarians: I have heard rumors that even though all the Eurozone sovereigns take on debt denominated in a currency that de facto is not their own domestic printable one; their debts, for the purpose of the risk weighted bank capital requirements, have been assigned a 0% risk weight by European authorities. Is this true or not?

If true does that 0% risk weight, when compared to a 100% risk weight of us European citizens not translate into a subsidy of the Eurozone sovereigns’ bank borrowings or in fact of all Europe's sovereigns?

If so does that not distort the allocation of bank credit in the sense that sovereigns, like Greece, might get too much credit and the citizens, like European entrepreneurs, get too little? And if so would that not signify some regulators, behind our backs, have imposed an unabridged statism on our European Union?

If so, does that not mean that some Eurozone sovereign could run up so much debt they would be seriously tempted to abandon the euro and thereby perhaps endanger our European Union?

Colleagues, I do not know who should answer us these questions, but the candidates to succeed Mario Draghi as president of ECB, should they not at least give us their opinions on it?

@PerKurowski

When are the Italians citizens to speak up against their statist central bankers and regulators?

Sir, Claire Jones and Miles Johnson write: “With economic growth non-existent and government debt at more than 130 per cent of gross domestic product, Italy would struggle without the aggressive monetary easing that Mr Draghi introduced.”, “Italy faces loss of influence in ECB after Draghi leaves” May 27.

Yes, short-term that’s true but, long-term, that’s much more questionable, especially if the regulatory distortions that favor bank credit to sovereigns over that to citizens are kept in place.

Sir, as far as I know, ECB/Draghi has never objected to that for the purpose of the risk weighted bank capital requirements, Italy has been assigned a 0% risk weight, and this even when its debt is not denominated in a domestic printable currency.

De facto that translates into expecting that Italian bureaucrats know better what to do with bank credit they are not personally responsible for, than what Italian entrepreneurs who would put their own name on the line can do with this; something that we all know can only weaken the economy, that is, unless you are a raving communist.

De facto it also translates into that, sooner or later, in the absence of galloping inflation in the Eurozone, the debt of Italy (and other sovereigns) will become unsustainable. When that happens Italy might have no choice but to give up the euro and return to the lira; something that could even bring the European Union down. If so, how sad that had to happen only because of inept statist central bankers and regulators, asked way too few question.

PS. I wonder how many in the European Union Parliament have asked what would be my first question if I had been elected a first time EU parliamentarian?

PS. My 2019 letter to the Financial Stability Board (FSB)

 

@PerKurowski

The risk weighted bank capital requirements, is just a lean and mean “regression to the mean” machine.

Sir, Tim Harford when discussing luck and reversal of fortunes, holds that genius followed by mediocrity [is] likely a “regression to the mean”, or in simple terms, a return to business as usual. “It can be hard to discern luck from judgment” May 25.

Indeed, but sometimes that reversal to the mean, has nothing to do with such mystical issues as luck, but is a direct consequence of a distortion. 

As I have often written to FT about, allowing banks regulatory privileges when financing what’s perceived as safe, like sovereigns or houses, will result in too much financing of the safe, which will cause “the safe”, sooner or later to revert to become very risky.

In the same vein, those who without correcting for a crisis are now considered triumphant, like ECB’s Mario Draghi, only because they’ve managed to kick a crisis-can forward, will one day be held much accountable, when that crisis can rolls back on some, as it sure must.

@PerKurowski

In a “world full of uncertainties”, how come regulators are allowed to bet our banks on the certainty of perceived risks?

Claire Jones reports that Olli Rehn, a possible contender to replace Mario Draghi opines that Central bankers must have “the ability and agility to manoeuvre though the current world that’s full of uncertainties” “Central bankers face a ‘world full of uncertainties’” November 19.

This is exactly what is wrong, they do accept there are uncertainties all around, but then they are not capable to utter a word when regulators, with Basel II, bet the banks on certainty, by allowing banks to leverage 62.5 times their capital with an asset if only a human fallible credit rating agency had assigned it an AAA to AA rating. 

According to Jones, Rhen agrees with Draghi in that “if Italy wanted ECB help, it had to sign up to a bailout programme from the European Stability Mechanism”. That de facto means that Italy must have to walk the plank as Greece did. 

But, I see not a word about the European Commission “Sovereign Debt Privileges”, that which set a 0% risk weight on Italy’s Euro denominated public debt, that which allowed (or in reality forced) Italy’s banks to overload on that debt. Why should Italy (or Greece), in a Union, have to carry the whole costs of a mistake caused by the Union?

Rhen opines “The only legitimate way of making monetary policy, be it conventional or unconventional, is to look at the economic development in the euro area . . . in its entirety”. He is absolutely right, but then the question is, why have EU not done anything real, in 20 years, to solve the challenges posed by the Euro to the individual nations of that entirety?

Those challenges if not solved, soon, pose a real existential threat to the European Union. Does Olli Rhen really believe that completing a banking union would suffice to take care of that?

@PerKurowski

Brexit is sure a bad idea, but how can you be sure Remain is not even a worse one?

Sir, Alex Barker and Jim Brunsden quote Catherine Barnard, a professor of EU law at Cambridge university: “Never before has a treaty been constructed of this kind,” “The EU is a unique organization. What the Brexit process has revealed is just how deep the integration is in reality.” “Accord leaves Britain bound to Brussels” November 16.

On the first, indeed, to for instance adopt a Euro in order to push forward a union instead of letting a union produce a common currency, is a truly strange way to construct a union.

But, on the second “how deep the integration is in reality” I beg to differ. Having a member like Greece walk the plank, especially as EU authorities were most to blame for its problems, is not the doings of a real deep union.

Sir, let me refer to a speech delivered by Mario Draghi, President of the ECB, at the Frankfurt European Banking Congress, given today, “The outlook for the euro area economy”. 

It concluded with: “I want to emphasize how completing Economic and Monetary Union has become more urgent over time not less urgent – and not only for the economic reasoning that has always underpinned my remarks, but also to preserve our European construction.”

I agree, because as is, Italy will not walk the plank as Greece did, and that could bring on the end of the euro, as we now know it, which could bring an end to the European Union, as we know now it, or, clearer yet, as we perhaps really don’t know it.

Sir, whether Brexit or Remain supporters, does not Britain (and all other UE members) have the right to know what “completing Economic and Monetary Union” to “preserve EU our European construction”, which Draghi urges really entails?

Draghi also mentioned “as urgent as the first steps were in euro area crisis management seven years ago”, “The completion of the banking union in all its dimensions, including risk reduction, and the start of the capital markets union through implementing all ongoing initiatives by 2019”

Sir, does not Britain, a nation where banking means so much, have the right to know exactly what that entails so that it banks are not castrated in the process?It is not just me a foreigner asking. Let me remind you that seven years ago, Alex Barker in [Mr. Brexit Negotiator] “Barnier vs. the Brits” wrote about the fears of Sir Mervin King that Brussels reforms would reshape a vital British industry, banking, to the benefit of eurozone rivals.

Draghi also said: “Household net worth remains at solid levels on the back of rising house prices and is adding to continued consumption growth.” 

That is an untrue statement. A much truer one would be: “Household net worth remains very fragile since it rides almost exclusively on rising house prices, as a consequence of the distortion produced by too much and too favorable financing being offered for the purchase of houses. A distortion that helped to anticipate much of the consumption we have seen, but that will come back and hurt house owners, whether by house prices falling, or hurt everyone, by inflation eroding our real consumption power.

Sir, when that happens, and the crisis needs to be managed so as to impede the destruction of all social cohesion, would you prefer to do that on a national level, instead of on the level of a union in which very few know how to sing its anthem?

Sir, I’m no one to give a recommendation but, should not the Brexit vs. Remain discussions refer more fundamentally to the future of Britain and of EU, instead of being turned into another profitable venture for some opportunistic polarization profiteers?

Should not FT inform its readers, in a much more balanced way, of all challenges that lay ahead, not only those of a Brexit but also those of a Remain?

A long time friend and admirer of Britain 

@PerKurowski

EU needs to find a president of the European Central Bank quite different from Mario Draghi… whatever it takes

Sir, you opine, “The most worthwhile tribute that European governments can make Mario Draghi, the president of the European Central Bank, is to find a successor who most closely replicates his attributes and has the best chance of continuing his success. There are few harder acts to follow in global policymaking than his. He has helped rewrite the central banking handbook, shepherding the euro through an existential threat from the sovereign debt crisis and the danger of a deflationary recession. “Next ECB chief should be in the Draghi mould” August 30. 

I disagree and believe that FT, at some point down the road, will have to eat up these words of praise for Draghi; who alsopreviously served as the Chairman of the Financial Stability Board from 2009 to 2011 and Governor of the Bank of Italy from 2005 to 2011.

Draghi, as a regulator, with the risk weighted capital requirements for banks was partt of the team that introduced a risk-aversion, which ignored all the valuable services banks provided, when acting as the societies’ designated risk-takers.

Draghi, as a regulator, ignoring conditional probabilities, supported risk weighted capital requirements for banks based on the perceived risk of assets and not based on how banks could manage those assets dependent on their own perceptions of risk. That distorted the allocation of credit, causing among other banks to fall over a precipice when chasing those AAA to AA rated securities they were allowed to leverage a mind-blowing 62.5 times with.

Draghi, as a regulator, was, is, a statist of first degree, for agreeing with risk weights of 0% for the sovereign and 100% for the citizen.

Draghi, as a European central banker, who must have known that the challenges the euro posed had not been taken care of, irresponsibly agreed when Greece was assigned a 0% risk weight, which caused its current tragedy.

What Draghi did in ECB, was just to act as the principal member of that kicking team that kicked the crisis-can down the road, willfully ignoring the fact that European grandchildren will suffer when that can begins to roll back on them.

Sir, in summary, the next ECB chief should know about the importance of risk taking, about conditional probabilities, should not be a statist, and should be able to refuse punishing a EU nation, like Greece, for the mistakes of EU authorities. 

So, whatever it takes, he should be very different from Draghi. I would hold that EU’s own chances of survival depends much on that. 

@PerKurowski

Europe (and the rest of the world) needs to get rid of the distortions produced by QEs and risk weighted capital requirements for banks.

Sir, Karen Ward, discussing ECB’s asset purchase programme writes: “It’s very hard to get the population to worry about government borrowing when interest rates seem impervious to how much the government wants to borrow”… “to truly put the European economy on a long-term sustainable footing it may be time for the ECB to step back and let the market do its job”… “Bond vigilantes are an essential part of the micro economy and vital for a thriving macro economy” “Investors should resist urge to run for the hills if ECB calls time on asset purchases” June 12.

Absolutely! Right on the dot! But besides suspending the distorting asset purchase program, there is also much need for to eliminate the risk weighted capital requirements for banks, that which so much and so uselessly distorts the allocation of bank credit to the economy.

PS. “Mario Draghi, ECB’s president, is under pressure to provide guidance” Forget it! Draghi is one of those regulators who decided to assign a 0% risk weights to sovereigns like Greece, and thereby helped to cause the crisis. Therefore Draghi should be prohibited to provide any further guidance.

https://teawithft.blogspot.com/2018/06/to-salvage-european-union-its.html

@PerKurowski

Risk weighted capital requirements for banks guarantee banks will have the least capital when the worst crises occur

Sir, Jim Brunsden and Cat Rutter Pooley write that Mario Draghi “said that speedy work was needed to conclude talks on an overhaul of bank rules that had been under discussion for more than a year. The reforms would introduce the latest international standards aimed at making the financial system more resilient to crises”, “Draghi warns banks of Brexit ‘frictions’” February 6.

Sir, again, for the umpteenth time, the price of being “More resilient to crises” in the way current regulators propose, is only to be more exposed when crises happen? This is because the risk weighted capital requirements for banks that still, quite surrealistically, form part of regulations, by giving banks incentives to stay away from what is perceived as risky, might reduce the number of crisis, but that at the price of banks having especially little capital, right when the worst crises happen, namely those that result from something ex ante perceived, decreed or concocter as very safe turn out ex post to be very risky.

Sir, again, for the umpteenth time, your banking systems are in hands of regulators who cannot answer: “Why do you want banks to hold more capital against what’s been made innocous when perceived as risky, than against what’s dangerous because it’s perceived as safe? Does this not set the world up for slow growth and too-big-to-manage crises?”

But, then again, “Without fear and without favour” FT does not dare ask regulators those questions either.

PS. Brunsden and Cat Rutter Pooley also write that “Michel Barnier, EU chief negotiator visiting London, that “the time has come” for Britain to make a choice about what kind of future relationship it wants.” Does Barnier, know what future relation the EU wants with Britain after Brexit, or is it that he thinks he speaks for all Europe?

http://perkurowski.blogspot.com/2016/04/here-are-17-reasons-for-why-i-believe.html

@PerKurowski

If AI was allowed to have a crack at the weights used by current risk weighted capital requirements for banks, the regulators would surely have a lot of explaining to do.

Sir, John Thornhill writes that he saw an artificial intelligence program crack in 12 minutes and 50 seconds the mindbendingly complex Enigma code used by the Germans during the second world war” “Competent computers still cannot comprehend” January 9.

I wish AI would also be asked to suggest some weights for the risk weighted capital requirements for banks.

For instance in Basel II the standardized risk weight assigned to something rated AAA, and therefore perceived as very safe, something to which banks could build up dangerous exposures, is 20%; while the risk weight for something rated below BB-, and therefore perceived to be very risky, and therefore banker won’t touch it with a ten feet pole, is 150%.

I would love to see for instance Mario Draghi’s, Mark Carney’s, and Stefan Ingves’ faces, if artificial intelligence, smilingly, came up with weights indicating a quite inverse relation between perceived risks and real dangers to a banking system.

http://perkurowski.blogspot.com/2016/04/here-are-17-reasons-for-why-i-believe.html

@PerKurowski

How long will regulators believe that unrated entrepreneurs pose more danger to banks than investment graded companies?

Sir, Brooke Masters writes that “a group of banks collectively lent €1.6bn to a South African billionaire. At the time, these “margin loans” looked like really safe bets because the lending was secured by 628m Steinhoff shares worth €3.2bn and the company had an investment-grade rating” and now they “were sitting on paper losses of €1.2bn” “Beware of top execs who depend on share-backed loans”, December 16.

Sir, this just another evidence of that what is really dangerous for banks is not what is perceived risky but what could erroneously be perceived as safe. And therefore that the current risk weighted capital requirements for banks makes absolutely no sense?

Sir, why is it so hard for you to ask regulators: “Is it not when banks perceive something as safe that we would like for these to hold the most capital?”

Are you afraid they will give you a convincing answer and leave you standing there as a fool? Don’t you think that if they had had an answer they would have shut me up decades ago?

Simon Kuper in today’s FT writes about how America an Britain have fallen into the hands of incompetent amateurish well-off baby boomer politicians, born between 1946 and 1964, “Brexit, Trump and a generation of incompetents”.

Sir why could that not also be applicable to baby boomer regulators, like for instance Mario Draghi, Stefan Ingves or Mark Carney?

PS. We should note though that it was a pre-baby-boomer generation’s Paul Volcker and Robin Leigh-Pemberton who were responsible for the origins of this monumental regulatory faux pas.

@PerKurowski

Leonardo da Vinci, smiling, must be harboring great gratitude to the Fed and ECB for helping his Salvator Mundi to become so highly valued.

Sir, I refer to Josh Spero’s and Lauren Leatherby’s “Record price sparks hunt for Da Vinci painting buyer” November 17.

Surely Leonardo da Vinci wherever he find himself must be smiling and extending his deepest gratitude to Fed’s Janet Yellen and ECB’s Mario Draghi for their QEs and ultra low interest rates. That has allowed him see his Salvator Mundi valued at US$ 450 million much earlier than he could have expected.

And Janet Yellen and Mario Draghi and their colleagues must surely be smiling too. Since Dmitry Rybolovlev bought that painting in 2011 for $127.5m, its current price hints at being successful at reaching an inflation rate target they never dared dream of.

The art curious still do not know who the buyer is, but be sure the redistribution profiteers are also looking after these US$ 450 million to find out how that money escaped their franchise.

Since the latter will surely soon again be talking about inequality I take the opportunity to advance my usual question of: How do you morph such a valuable piece of art into street purchasing power again; that can be used for food and medicines, without the assistance of another extremely wealthy?

@PerKurowski

Martin Wolf insists on turning a blind eye to the Financial Instability AAA-Bomb armed by the Basel Committee

Sir, Martin Wolf writes: “it has to be possible for the financial system to cope with changes in asset prices without blowing up the world economy… An essential part of achieving this is deleveraging and in other ways strengthening intermediaries, notably banks.” “Central banks alone cannot stabilise finance” October 25.

What did the Basel Committee for Banking Supervision do, for instance with Basel II?

They assigned risk weights of 0% for AAA rated sovereigns, 20% for AAA rated private sector, 35% for residential mortgages and 100% for the unrated private sector.

That, with a basic capital requirement of 8%, translated into banks being able to leverage their capital (equity): limitless with AAA rated sovereigns, 62.5 times with AAA rated private sector, 35.7 times with residential mortgages and 12.5 times with the unrated private sector.

Major bank crisis never ever result from excessive lending to what is perceived as risky. These, with the exception for when some major unforeseen events occur, always result from excessive exposures (credit bubbles) to what is ex ante perceived as safe, but that ex post turns out to be very risky, often precisely because too much credit has been given to it.

So considering that this regulation implies telling banks to go to where for the system it is the most dangerous, while holding the least capital, it must truly be classified as a bomb against financial stability. In 2009, in sad jest, I set up a blog titled The AAA-Bomb.

And oh if the only thing that bomb produced was financial instability. But no, it also produces economic weakness, by negating the “risky” the access to credit they need in order to keep the economy going forward. We finance much more the building of safe basements in which our jobless children can live, than those “risky” who could have a better chance to provide them with the jobs they need to move to their own upstairs.

And don’t tell us that if a bank can leverage much more with the “safe”, and thereby obtain much higher expected returns on equity with the “safe” than with the “risky”, it will keep on bothering with lending to SMEs or entrepreneurs. Of course it won’t. The risk weighted capital requirements for banks have turned our savvy know-your-client loan officers into dumb equity minimizers.

With respect to “deleveraging and in other ways strengthening intermediaries, notably banks” Wolf now opines “That has indeed happened, but not, in my view, nearly enough.”

Well of course not! How could that be, when even Martin Wolf himself has played a great role in silencing the existence of that bomb… that about which I have written to him more than 400 letters and to FT in general more than 2.500.

Finally Martin Wolf writes about “the failure of governments to address the many frailties that still lead to financial excess. The central banks did their job. Unfortunately, almost nobody else has done theirs”

What? Look at the major role central bankers like Paul Volcker, Mario Draghi, Jaime Caruana, Mark Carney, Stefan Ingves and many other have had or have in the area of banking regulations. They, by ignoring the distortions in the allocation of bank credit to the real economy these regulations caused, have wasted most of the stimulus they have been injecting with their quantitative easing and low interest rates.

Sir, since getting rid of the risk weighted capital requirements for banks is not even mentioned here by Wolf, and you yourself can be considered a partner in the silencing of me, I guess this letter will also be added to the silenced ones… but of which I of course keep a record… here on the web.

PS. Come to think of it, should not central bankers even recuse themselves when it comes to bank regulations?

PS. Truly, FT's lack of curiosity amazes me

PS. Sir, click if you want an aide mémoire on the mistakes

@PerKurowski

Monsieur Macron, more than a finance minister/ministry, Europe needs bank regulators who know what they’re doing.

Sir, Reza Moghadam lays out a proposal for a European finance minister/ministry that, though it “stops short of Mr Macron’s vision of fiscal union, with Europe-wide taxes and spending… focuses on the essential: a collective action mechanism for managing and stabilising economies in crisis.” “Macron is right — the Eurozone needs a finance minister” September 29.

Moghadam suggests the job description for that post should answer some key questions, and among these: “How can the risk of crises, and so fiscal payouts, be minimised? What would be the role of the minister in a crisis?”

The prime answer to the first question should be:

Getting rid of current risk weighted capital requirements for banks. These only guarantee that banks will hold the least capital, when a crisis, as usual, arises because of something that was ex-ante perceived as very safe turns out ex-post to be very risky.

The prime answer to the second question should be:

Make sure any stimulus, like QEs or low interest rates, flows freely so that the market has a chance to use it as efficiently as possible. This also requires getting rid of current risk weighted capital requirements for banks. These, by allowing banks to earn higher risk adjusted returns on equity on what is perceived safe than on what is perceived risky, seriously distorts the allocation of bank credit to the real economy.

Sir, in other words, much of what Europe could need from a finance minister, could be achieved by just firing the current inept bunch of bank regulators.

Basel II’s standardized risk weights of 150% for the below BB- rated and of 20% for the AAA rated, should be more than enough evidence on how little current regulators understand of banks and of finance.

Monsieur Macron, do you know bank regulators have decreed inégalité?

PS. Perhaps Monsieur Macron could ask his wife what has a better chance of causing those big bank exposures that can result in a major bank crisis, the ultra-safe AAAs, or the ultra-risky below BB-? I am sure Mme Macron would give him a more correct answer than what Mario Draghi would do; and this even though Draghi was the previous chairman of the Financial Stability Board and is now the chairman of the Group of Governors and Heads of Supervision the oversight body of the Basel Committee of Banking Supervision.

Perhaps Monsieur Macron should also ask Mme Macron what she thinks of 0% risk weights of sovereigns. Does she really think government bureaucrats know better than the private sector how to use bank credit efficiently? Reza Moghadam, who was previously at the IMF, has not expressed any sort of concern with that… but then again he is now the vice-chairman for sovereigns and official institutions at Morgan Stanley.

@PerKurowski