Should central bankers answer my questions, or are they better off ignoring these?

Gillian Tett writes: “A century ago…central bankers barely talked to the public. Montagu Norman, the Bank of England governor from 1920 to 1944, is thought to have said: “Never explain. Never excuse.” That was partly because bank chiefs did not expect ordinary mortals to understand finance. But they also believed aloof detachment increased their authority.” “Should central bankers engage with the public?” July 28.

Sir, consider that I have with all means, even begging journalists to ask the questions, not been able to get an answer on something that should be very much within the general area of interest and responsibilities of a central banker, namely bank regulations.

My questions are simple and straightforward.

Why do you think that the regulators think that what is perceived as risky is more dangerous to our bank systems than what is perceived as safe? Could it be because regulators look at the risk of the assets of a bank, like bankers do, and do not look at the risk those assets could pose to the bank system, as regulators should do?

Why do you think that allowing banks to leverage differently their capital (equity) with assets based on different capital requirements, could not very dangerously distort the allocation of bank credit to the economy?

When are those European central bankers/regulators who assigned a 0% risk weight to Greece, going to be named and shamed, for dooming that nation to the so tragic consequences of excessive public debt?

Sir, “If Montagu Norman saw [my questions] what would he make of it all?”

Perhaps: “Never explain. Never excuse”, most especially when you have no explanation and you have no excuse?

@PerKurowski

Citigroup’s Chuck Prince said: “As long as the music is playing, you’ve got to get up and dance”, but bank regulators insist on playing the same 30 years old song.

Sir, Andrew Hill worries about how many of today’s banker class remember it, let alone worry, about the complacency expressed in Chuck Prince’s “As long as the music is playing, you’ve got to get up and dance. “James Gorman, chief executive of Morgan Stanley “Amnesia dooms bankers to repeat their mistakes” June 24.

Hill hopes Gorman “is experienced enough to have detected the echoes of 2007 in the current soundtrack of rising share prices and lowering regulatory burdens… and that he teaches “more of his younger, fresher-faced staff to recognize the tune and know when to bow politely and leave the dance floor.

As for me I would much rather prefer the regulators stopped playing that very same old song of the “risk weighted capital requirements for banks”, composed in 1988 by the Basel Accord, and otherwise known as “You earn higher returns on the safe than on the risky”. That song drove bankers into an intense maniac polka, in pursuit of the very high expected risk adjusted returns offered on what was perceived (houses), decreed (Greece 0% risk), or concocted (AAA rated securities) as safe.

PS. Hill refers to John Kenneth Galbraith’s The Great Crash 1929 account of the willful errors and self-interested speculation of the great investment banks. But Galbraith also wrote “Banks opened and closed doors and bankruptcies were frequent, but as a consequence of agile and flexible credit policies, even the banks that failed left a wake of development in their passing.” Money: Whence it came, where it went” (1975)

@PerKurowski

Bank regulators, get rid of risk weighted capital requirements, so that savvy loan officers mean more for banks’ ROE’s, than creative equity minimizers.

Sir, Gillian Tett referring to IMF’s recent warnings about the risks of overheating in risky loan and bonds markets; like “The proportion of US loans with a rating of single B or below (ie risky) rose from 25 per cent in 2007 to 65 per cent last year. And a stunning 75 per cent of all 2017 institutional loans were “covenant lite” writes: “it is possible — and highly probable — that non-banks are taking bigger risks, since they have less historical expertise than banks, and thinner capital buffers.” “The US has picked the wrong time to ease up on banks” April 27.

Yes, with risk weighted capital requirements banks ROE’s began to depend more on maximizing leverage, and so banks sent home many savvy loan officers and hired creative equity minimizers instead. As a result someone else had to serve “the risky”. 

But then Tett warns “Trump-era regulators” with a “it is foolish to be encouraging risky lending right now”. Wrong! It is always foolish to encourage risky lending. 

What Tett does not understand is that “risky lending” has nothing to do with a borrower being risky, and all to do with whether the lending to those perceived risky or those perceived safe, is done in such a way, with adequate exposures and risk premiums, so that the resulting bank portfolio is well balanced. 

The current extremely risky bank lending is the result of way too large exposures, at way too low risk premiums, to what is perceived, decreed or can be concocted as safe; and way too little exposures, at way too high risk premiums, to anything perceived as risky.

What regulators really should do, is to get rid of the risk-weighted capital requirements for banks. Then bank loan officers, those that could also show the non-banks the way would return, for the benefit of both the banks and the real economy.

Why do many bankers hate such possibility? Because high leverage, meaning little equity to serve, is the main driver of their outlandish bonuses. 

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

@PerKurowski

When banks can leverage more their equity financing “safe” built houses than financing “risky” job creation, too many young are doomed to live unemployed in our basements

Sir, Bill Mendenhall in a letter of December 18, “Lord Turner got there first on productive credit” mentions a report by Jim Pickard “Labour looks at making mortgage lending harder for banks” December 12. Pickard’s report was not in FT’s US edition.

Pickard wrote: “Shadow chancellor John McDonnell is considering making mortgage lending more onerous for banks in an effort to push them to lend more to smaller companies…The proposals were set out in “Financing Investment”, a report commissioned by the Labour leadership and written by GFC Economics.

According to GFC, British banks are “diverting resources” away from vital industries and instead focusing on unproductive lending, such as consumer credit borrowing.

The paper argues that the Prudential Regulation Authority, the BoE’s City regulator, should use existing powers to make banks hold relatively more capital against their mortgage lending. The report’s authors say this would be an “incentive to boost SME lending growth”.

The GFC report also claims that the BoE’s Financial Policy Committee “makes no distinction between unproductive and productive lending” to companies, arguing that the banking sector “should be geared towards stimulating productive investment”.

The report calls for the FPC to use existing powers to vary the risk weights on banks’ exposures to residential property, commercial property and other segments of the economy.

The report acknowledges that such interventions would be seen by critics as risky measures that could “impede the smooth functioning of markets” and distort the efficient allocation of capital. But it warns that “financial stability risks will emerge if an economy loses its competitiveness”.

Sir, you must be aware that this includes much of what I have written to you in thousands of letters, for more than a decades, and that you have decided to ignore.

But, if that report acknowledges that “to vary the risk weights on banks’ exposures to residential property, commercial property and other segments of the economy… would be seen by critics as risky measures that could ‘impede the smooth functioning of markets’’, why does it not then question the distortion the current existing differences in risk weights cause?

Pickard also mentions that the report warn that “financial stability risks will emerge if an economy loses its competitiveness”. No doubt! Banks cannot be the sole triumphant survivors in an economy that is losing strength.

And when now Mendenhall writes that “Lord Turner got there first on productive credit” because in his 2015 book Between Debt and the Devil he pointed out that “the banking sector’s decades-long switch away from lending to businesses towards mortgage lending only serves to inflate asset prices, which leads to property bubbles”, that does not mean that Lord Turner really understood or understands what has happened.

In June 2010, during a conference at the Brooking Institute in Washington DC, I asked Lord Turner “Do you really think the banks will perform better their societal capital allocation role if regulators allow them to have much lower capital requirements when lending to the consolidated sectors than when lending to the developing?

To that Lord Turner (partially) responded: "we try to develop risk weights which are truly related to the underlying risks. And the fact is that on the whole lending to small and medium enterprises does show up as having both a higher expected loss but also a greater variance of loss. And, of course, capital is there to absorb unexpected loss or either variance of loss rather than the expected loss.”

Pure BS! With that Lord Turner evidences he ignores that banks already clear for the higher risks when lending, so that when also clearing for it in the capital, the whole credit allocation process gets distorted… and banks end up lending more to build “safe” downstairs for our children to live in with their parents, and lending less to “risky” entrepreneurs who could get them the jobs to afford buying their own “upstairs” 

No, Lord Turner is just one of those too many regulators that want banks to hold the most capital against what is perceived as risky, while in fact it is when something perceived as safe turns out to be risky, that we would most like that to be the case.

@PerKurowski

The safest route for UK might be to take to the seas in a leaky boat, abandoning a safe haven that is becoming dangerously overpopulated.

Sir, Martin Wolf writes: “A significant generational divide has opened up. Those aged 22-39 experienced a 10 per cent fall in real earnings between 2007 and 2017. They were also particularly hard hit by the jump in average house prices from 3.6 times annual average earnings 20 years ago to 7.6 times today. Not surprisingly, the proportion of 25-34 year olds taking out a mortgage has fallen sharply, from 53 to 35 per cent.” “A bruising Brexit could shipwreck the British economy” November 17.

Sir, I would argue that has a lot to do with the fact that banks are allowed to leverage much more their equity when financing “safe” home purchases than when for instance financing job creation by means of loans to “risky” SMEs and entrepreneurs.

Because that means banks can earn much higher expected risk adjusted returns on their equity when financing home purchases than when instance financing job creation by means of loans to SMEs and entrepreneurs… and so they do finance much more home purchases than risky job creations.

But Martin Wolf does not think so. He thinks bankers should do what is right, no matter the incentives. I think that is a bit naïve of him.

The way I see it, one of these days all the young living in the basements will tell their parents. “We’ve been cheated. You move down and we move upstairs.”

And it will be hard to argue against that. My generation has surely not lived up to its part of that intergenerational holy social contract Edmund Burke wrote about. 

Wolf ends with “The UK has embarked on a risky voyage in a leaky boat. Beware a shipwreck”. No! I would instead hold that its bank regulators made it overstay in a supposedly safe harbor that is therefor rapidly and dangerously becoming overcrowded.

“A ship in harbor is safe, but that is not what ships are for”, John A Shedd.

Sir, I have no idea if Martin Wolf has kids but, if he had, would his kids have grown stronger if he had rewarded them profusely for staying away from what they believe is risky? I don’t think so.

PS. If Brexit goes hand in hand with a Baselexit, Britain will at least to better than now.

@PerKurowski

If the west insists on autocratic regulatory intervention of its banks, then it is not much different from China

Sir, Martin Wolf writes: “The west let its financial system run aground in a huge financial crisis. It has persistently under-invested in its future. The west needs rejuvenation. It cannot rejuvenate by copying the drift towards autocracy of far too much of today’s world. It must not abandon its core values, but make them live, once again. It must create more inclusive and dynamic economies” “The challenge of Xi’s Leninist autocracy”

Indeed, but what that west in which we used to sing psalms like “God make us daring” has done, is to allow autocratic regulators, with their risk weighted capital requirements for banks, to put the natural risk aversion of our bankers on steroids.

If we do not allow our banks to compete freely without this type of autocratic intervention we are not that different from China.

Sir, frankly, does the west really need to allow its banks to earn higher risk adjusted returns on equity when lending to sovereigns, or to AAA rated, or on house mortgages, than when lending to its SMEs and entrepreneurs? I would have to say “NO!”

@PerKurowski

A designated group of Wise People, often self-designated from a mutual admiration club, does not guarantee any wisdom

Sir, Howard Davies the chairman of the Royal Bank of Scotland, when discussing financial regulations after Brexit writes. “The choice is presented as being between continued market access, as a rule taker from Europe, or taking back control of our own regulation and losing market access. The dilemma is nothing like so stark —EU bank capital regulations derive from the Basel Accords, and the UK remains a full member of the Basel Committee.” "Post-Brexit financial regulation cannot be left to negotiators" November 1

And to Work “out a new arrangement which responds to these realities” he suggests designating a group of Wise People.

Indeed, but Britain, Europe, we all need is bank regulators acting like wise men, and not like self-interested not accountable to anyone bankers.

Let me for the umpteenth time ask some questions.

What creates those excessive exposures that can endanger a bank system?

That which is perceived as very safe, or that which is perceived as very risky?

The regulators obviously believe the second, the very risky, as they in Basel II assigned a risk weight of 20% to what is AAA rated and one of 150% to what is below BB-rated.

What do you think is a more important purpose for our banks?

Lending to sovereigns and the AAA rated those with already ample access to credit, or lending to SMEs and entrepreneurs those that could help the economy to keep moving forward?

The regulators obviously believe the first, as they in Basel II allowed banks to leverage 62.5 times to 1 or more when lending to sovereigns and AAA rated, but only 12.5 times to 1 when lending to the unrated.

But have not Basel III changed it all? No, the risk weighted capital requirements remain in place and, on the margin, are just as distorting as ever.

How has this happened? The regulators acted like bankers and looked at the risks of bank assets, instead of wisely concerning themselves with if bankers perceived or managed the risks correctly.

Any risk, even if perfectly perceived, causes the wrong action if excessively considered.

And so for Britain and for the long-term prospects of the English banks that we have learned to admire, assure yourself of getting rid of all that pernicious Basel influence and so that your bankers can again be savvy loan officers, and not just the small equity minimizers they have so willingly become… in order to maximize their bonuses.

@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

Beware, nudging, like that done by bank regulators, can have very dangerous unexpected consequences

Sir, Tim Harford writes: “Professor Richard Thaler’s catch-all advice: whether you’re a business or a government, if you want people to do something, make it easy.”, “Thaler’s Nobel is a well-deserved nudge for behavioural economics” October 10.

Yes “making it easy” is great advice, but it is only truly helpful if what is made easier is really good for you… otherwise it could be outright dangerous… like nudging someone over a cliff.

Regulators, caring little or nothing for the credit allocation function of banks, foremost wanted these to avoid risks. To that effect they allowed banks to hold less capital against what’s perceived or decreed safe than against what’s perceived risky.

With that regulators allowed banks to easily obtain higher risk-adjusted returns on equity lending to The Safe than when lending to The Risky.

With that regulators dangerously nudged our banks into too much exposure to The Safe and too little to The Risky.

The result was a bank crisis because of excessive exposure to The Safe: sovereigns, AAArisktocracy and mortgages; and economic doldrums because of insufficient credit to The Risky: SMEs and entrepreneurs.

Sir, and so here we are, without most not even knowing about the odious regulatory nudging that was as is being done.

What rules do we have to impose on nudging to make sure it is done right?

https://teawithft.blogspot.com/2008/11/at-least-listen-to-joker-before-giving.html

https://teawithft.blogspot.com/2008/08/how-do-you-nudge-financial-times.html

https://subprimeregulations.blogspot.com/2015/12/professor-richard-thaler-do-not-give.html

@PerKurowski

Our dear George Banks, having anteceded the Basel Committee, would never have dreamt about current bank bonuses

Sir, Jonathan Ford writes: “As Andy Haldane of the Bank of England points out, there are few ways for banks to bolster their returns to shareholders. One is to loosen underwriting standards and so increase the riskiness of assets they invest in. The other is to squeeze the amount of regulatory capital they set against the investments they make.” “Banking bonuses ought to be dead and buried by now” August 14.

Haldane is wrong about the increase of riskiness of assets, to improve the return on equity that is of little and doubtful sustainable value (bankers have even been fired for that); but he is absolutely correct about the regulatory capital.

When current bank regulators were taken for a ride by bankers and convinced, like for instance with Basel II of 2004, to set the capital requirements against something rated AAA to AA at only 1.6%, meaning an authorized leverage of equity of 62.5, they allowed bankers to earn returns on equity beyond their shareholders’ wildest dreams, and this even after keeping for themselves huge eye-watering bonuses.

Place a 10% capital requirement on all bank assets and those bonuses would immediately begin to vanish in the air as a result of shareholders becoming again important to banks.

As a huge bonus for the rest of the economy, that would also eliminate the current odious distortion of bank credit in favor of “the safe”, sovereigns, AAArisktocracy and houses, and against the risky, SMEs and entrepreneurs.

PS. Here is a letter from George Banks III, after having been called a bankster.

George Banks (the first)

@PerKurowski

Current bank regulations also guarantee Canadian covered bonds will have more demand than Italian.

Sir, Thomas Hale while explaining the appetite for Canadian covered bonds quotes Michael Spies, a strategist at Citi with: “I’m buying a collateralised bank bond rated triple A, from a bank which is rated double A, in a country which is rated triple A,” he adds. “Now let’s put this together and compare it to an Italian covered bond.” “Canada’s housing rally owes a debt to Europe” July 12

That is not the whole story. Those Canadian covered bonds can, as a consequence of the risk weighted capital requirements, be held by banks against less capital than those “risky” Italian ones; and so therefore the banks can multiply their equity with more Canadian net risk margins than with Italian; and so banks will earn higher expected risk adjusted returns on equity with the Canadian than with the Italian; and so the Canadian covered bonds, when compared to the Italian, will have more demand than these would have had in the absence of the risk-weighting, and the Italian less.

That the distortion in the allocation of bank credit to the real economy the risk-weighted capital requirements for banks cause is not more discussed, is one of the great mysteries of our times.

PS. I was kindly informed of that "The risk weighting for a highly rated Italian covered bond is actually significantly lower (10%) than for a Canadian covered bond of the same rating (20%). This is because the European legislation (CRR) affords preferential treatment to issuers in the European Economic Area." I did not know that, but it sure makes me question whether Canada is aware of that it is subjected to this kind of European regulatory protectionism. 

@PerKurowski

Where would China be if western world had not placed a reverse mortgage on their economies, in order to keep on buying?

Sir, with interest I have read Martin Wolf’s “How the developed world lost its edge” July 20. In my opinion Wolf ignores two major events that had these not happened would have radically changed the current outlook.

First, regulators told banks: “Go out in the market and negotiate the best risk-adjusted net margins you can. And then, in order to make sure you do not take risks, we will allow you to multiply these margins much more in the case of assets perceived as safe than in the case of risky assets.”

That of course led to the accumulation of excessive exposures and against very little capital (equity), to something ex ante perceived decreed of concocted as safe, like AAA rated securities and sovereigns, which when ex-post turning out very risky caused the 2008-crisis.

And then central banks, with their QEs and ultralow interest rates, hindered the necessary market cleanup, and kicked the 2008-crisis can down the road, a road made unproductive by previous mentioned regulatory risk aversion.

So what resulted? No adjustment and further indebtedness, which allowed prices of assets to increase and demand (among other of Chinese production) to be sustained… further allowing the Chinese to save. 

Wolf writes: “The rapid growth of both trade and cross-border financial assets and liabilities and trade, relative to global output, has come to a halt. In the case of finance, plausible explanations are risk-aversion and re-regulation”. “Risk-aversion”? Yes, but not any new one but that which result from regulators loading up, on top of bankers’ natural risk aversion, there own aversion based on the same perceived risks. The bankers lend you the umbrella when the sun shine’s Mark Twain, would never have believed his eyes had he seen such regulatory nonsense.

Sir, as I’ve written to you many times before, never ever has a generation taken on so much debt to finance their own consumption, and shown so little respect for the needs of future generations, those needs that include bankers lending to risky SMEs and entrepreneurs.

How can a Western world made great by taking risks, not lose its edge by avoiding it?

Wolf concludes with: “Rising populist pressure across the high-income economies makes managing these shifts far more difficult.” Indeed, but let us not forget that this mess began when some truly inept populist technocrats, like real life Chauncey Gardiners, convinced governments they knew what they we doing.

PS. Martin Wolf also fell for it.

@PerKurowski

The outsized bank revenues and the crash were caused by the monstrous huge leverages authorized by their regulators

Sir, Patrick Jenkins writes: “The outsized revenues and profits that banks and other financial groups made in the run-up to the crash, much of it inflated by mis-selling and manipulation, have given way to lower income” “Banks can become an engine of productivity instead of a brake” July 11.

Jenkins just does not get it. “The outsized revenues and profits that banks and other financial groups made in the run-up to the crash” were the direct result of regulators allowing banks to leverage their balance sheets tremendously. For instance Basel II of 2004 authorized banks to leverage 62.5 times to 1 if an AAA rating was present, and a lot of times more when lending to a “safe” sovereign. Had banks been allowed to leverage with all assets only 12.5 times, as Basel’s 8% basic capital requirement implied, there would not have been outsized bank revenues and profits, nor the crash. Capisci?

How could banks become an engine of productivity again? Stop discriminating against the “riskier” future and in favor of the “safer” present.

@PerKurowski

Patrick Jenkins, in banking, its current regulators lie out of their teeth’s, or are just incredibly dumb and inept.

Sir, Patrick Jenkins writes: “No sector, though, can compete with banking for the scale, depth, longevity or variety of lying that has infected a whole way of doing business.” “Bank bosses have to ensure that honesty is the best policy” March 14.

Perhaps but if so that lying is shared with its regulators.

Not a week goes by without at least one major financial media referring to Basel ratios that indicate banks are well capitalized. A responsible regulator should be out there answering such affirmations by reminding everyone that these ratios are; first not at all comparable with historic capital ratios based on non-weighted assets; and that they mean nothing if the risk weights are wrong. But the regulators don’t! They just play along. 

And to state that those rated AAA, those who regulators assign a risk weight of 20%, are more dangerous to the bank system than those rated below BB-, those who regulators assigns a 150% risk weight to, is a mindboggling blatant lie, or a stupidity out of this world… have a pick!

Jenkins concludes among other with “More important still is that bank bosses themselves prioritise long-termist decency over short-termist profit-chasing”

Few things are more short-termist, or less long termist, than allowing banks to leverage more their equity, which means earning higher risk adjusted returns, with what is “safe”, usually the past and present, than with what is “risky”, usually the future.

Just think of it, a 35% risk weight on residential mortgages, and one of 100% for SMEs. That would seem to doom our young to have to live without jobs, forever in their parents’ basements… or, if there is a reverse mortgage on it, until the house is repossessed by the bank.

And Sir, if not directly lying, is not keeping mum on it at least sort of withholding the truth?

@PerKurowski

Regulators must now help banks escape the business model of capital minimization their distortive regulations created

Sir, Richard Blackden, while discussing European banks, writes: “Their return on equity (RoE) — a common measure of a lender’s performance — has been hit by regulators’ demands that they hold more capital.” “European banks still out in the cold” October 4. 

If banks had to hold the same amount of capital against any asset (as they de facto used to), then banks could do traditional banking, which was investing without distortions in the assets that offered them the highest risk adjusted margins.

Currently banks can’t do that because, with the risk weighted capital requirements, the risk adjusted margin of an asset, has now to be placed in perspective of how much capital is required against it. And so banks have become used to maximize their risk adjusted returns on equity, not so much by banking in the traditional sense, but by minimizing capital.

Of course just generally increasing capital requirements, while leaving a part of the risk weighting distortions in place, makes it much harder for the banks and the markets to understand and adjust to new realities.

Therefore, the faster regulators rid the banking sector of the risk weighting distortions, and impose one single capital requirements for all assets, the better for banks and, even more important, the better for the real economy.

I am sure investors would love to invest in banks that were made to operate and compete as banks in the traditional sense.

This world were you can now read about a bank’s common equity tier one ratio being for instance 10.8 per cent; something which could seem indicative of a leverage of less than 10 to 1; only to find out the real leverage could for example be over 30 to 1; and this only because some regulators wanted for him and you to have better information, is too damn confusing for any normal investor that could have wanted to have some bank shares, in his conservative portfolio.

@PerKurowski ©

What if ideas on more productivity were evaluated strictly based on the CVs of those originating these?

Sir, I refer to Sarah O’Connor’s “Want your staff to do more? Just listen to them”, September 28.

Let us suppose you are sitting around a table with all your employees, to hear their suggestions of how to improve productivity. And you also have in front of you their respective CV’s.

And now let us also suppose your boss tells you: “If you find a good idea presented by those having a Master degree or more, I will triple your salary but, if you find that idea among those with less qualifications, you will only get a 10 percent raise.” What will happen?

I ask this because, in terms of bank credits that could lead to more productivity, that is precisely what bank regulators, with their risk weighted capital requirements for banks, are telling the bankers. “If the good idea comes from one AAA rated, you will be allowed to leverage a loan to him much more, meaning you could earn a much higher expected risk-adjusted return on equity, than if that good idea came from an SME or an unrated citizen.

Capisci Sarah?

@PerKurowski ©

Senator Elizabeth Warren, what about the staggering bad bank regulations that came out of the Basel Committee?

Sir, Patrick Jenkins writes: “Today, Mr Stumpf will face an inquisition at the Senate banking committee. It promises to be a hostile experience — no-nonsense committee member Elizabeth Warren is not known for her love of the banking sector and has already talked of Wells’ “staggering fraud”. “Wells Fargo chief ’s high noon is Senate committee grilling” September 20.

I’ve got no problem with any “grilling” of bankers, give it to them! But, Senator Warren, in all fairness, do not turn it all into another simpleton Bank-Bashing fair, We the People need it to be much more. If anything, look at how the bank regulators set up all the incentives for bankers to do wrong.

Why on earth should we expect bankers to be saints and resist the temptations? Aren’t they supposed to maximize their risk adjusted returns on equity?

What am I talking about? THIS

http://subprimeregulations.blogspot.com/2016/09/if-ever-allowed-following-would-be-my.html

PS. And Senator Warren, why would you agree with those who decreed inequality?

http://subprimeregulations.blogspot.com/2016/03/decreed-inequality.htm

@PerKurowski ©

If banks want to keep the society’s support, they must again become efficient allocators of credit to the real economy.

Sir, Simon Samuels, a banking consultant, writes that “the priority of regulators and policymakers in Europe…should be developing financing solutions other than banks from which customers can borrow” and one way he suggests is “to give borrowers an incentive to shun banks and so deepen Europe’s capital markets.” That sure does not sound like a consultant working for the long term interest of his clients. Does Samuels really believe banks will keep the huge taxpayer support they now have, if they abandon lending to all in the real economy? “Bank regulators, be careful what you wish for” July 25.

But then Samuels dutifully defends the profitability of banks by warning against increased capital requirements. He writes: “If the return on equity from mortgage lending or corporate lending falls by more than half — as has been widely estimated under the proposals as drafted — then banks will either ration lending in these areas or try to raise prices.”

But Samuels also keeps mum about the fact that, for the purpose of the capital requirements for banks, the risk-weight for mortgage lending is 35%, while the risk weight for any corporate rated BBB+ or below is 100% or more. Which means that banks already earn much higher risk-adjusted returns on equity when financing houses, or investing in other perceived, decreed or concocted safe assets, than when financing those “risky” SMEs and entrepreneurs, those that could create the jobs needed for house owners to service mortgages and pay the utilities.

Of course, as someone interested in the well-being of the real economy, I would also tell the regulators to go very easy on the increase in any capital requirements for banks. But, much more than that, as I have done for soon two decades, I would beg regulators to eliminate that regulatory risk-aversion that has stopped banks from financing the risky future and now have these only refinancing the safer past.

If the banks and bankers forget that their role is to allocate credit efficiently to the economy, and that that is the only reason why society supports them, they will very soon be out of business… and out of bonuses.

PS. I dare you all to have a look at some of the mind-blowing mistakes of current bank regulations.

PS. I have had some other occasions to opine on Simon Samuels opinions.

@PerKurowski ©

Mervyn King, for bank regulators to use the expected, as a direct proxy for the unexpected was, and is, radically dumb

Sir, John Plender, March 3, reviewed Mervyn King’s book “The End of Alchemy: Money, Banking and the Future of the Global Economy" And in doing so Plender writes that King argues that in a world of what economists now call “radical uncertainty”, it is not always possible to compute the expected utility of any action. There is simply no way of identifying the probabilities of all future events and no set of economist’s equations that describe people’s attempts to cope with that uncertainty.”

And according to Plender, King proposes a “central bankerly pawnbroking” facility to supply “liquidity, or emergency money, within a framework that eliminates the incentive for bank runs… That would displace what King regards as a flawed risk-weighted capital regime ill-suited to addressing radical uncertainty.”

And John Kay ends his discussion of King’s book with: “There is a world of difference between low-probability events drawn from the tail of a known statistical distribution and extreme events that happen but had not previously been imagined”, “The enduring certainty of radical uncertainty”, April 6.

Hold it there has all that really anything to do with the current risk weighted capital requirements for banks? Absolutely not!

What happened was that since the regulators did not know how to estimate the unexpected losses, those that bank capital is foremost to safeguard agains, they went out and used the expected credit risks. And since those risk were already cleared for by banks, with interest rates and the size of exposures, credit risks, when also used to set capital requirements, were given too much consideration.

And, for the umpteenth time: any risk, even if perfectly perceived leads to wrong actions if excessively considered.

And Plender also wrote about King arguing: “Banks satisfied investors’ desperate search for income by creating increasingly complex and risky financial products based chiefly on mortgage debt. Bank balance sheets grew explosively as property lending ballooned. At the same time, the capital of banks shrank as they took on more risk.

Again that is not really so! The increasingly complex and risky financial products chosen were entirely based on that these could be argued to be very safe, and therefore require banks to hold less capital. For instance mortgage debt would never ever have exploded as it did, if instead of receiving a 35 percent risk weight, it had the 100 percent risk weight assigned to “risky” SMEs and entrepreneurs.

And Plender also wrote about King arguing: “They were trapped by what game theorists call a prisoner’s dilemma. If they retreated from riskier lending and trading strategies while reducing their borrowings, a decline in short-term profits relative to their competitors would have caused staff to defect in pursuit of higher bonuses elsewhere and prompted calls for the chief executive’s head.”

Those “short tem profits” are not some absolute profits, but returns on equity, and so banks, searching for the highest profits, naturally favored those exposures that provided the highest expected risk adjusted returns on equity, in other words those that could be most leveraged.

Sir, I have no respect for a regulator like Mervyn King. He and all his colleagues decided to regulate banks without defining their purpose. Had they done so they would have known, that the most important social purpose of banks is to allocate credit efficiently to the real economy.

Now our banks do not finance the riskier future they just refinance the, for the short time being, safer past.

“A ship in harbor is safe, but that is not what ships are for.” John Augustus Shedd, 1850-1926 

I can understand journalists covering the reputation of old friends… but is that really their role and duty? “Without fear and without favor”… Hah!

@PerKurowski ©

The regulators, by helping bankers have their wet dreams come true, worsened our young’s future perspectives.

Sir, Martin Sandbu writes: “The giants of the US asset management industry have held secret meetings since August to discuss how to push company executives to make more long-term decisions. Participants included veteran investor Warren Buffett, JPMorgan CEO Jamie Dimon, and leaders from Blackrock, Fidelity and other major managed fund providers.”, “From boardroom to Shangri-La”, February 20.

And Sandbu refers to: “Negative externality” is the economist’s term for the harm a company’s activities cause to the world around it… lobbying for government rules that privilege one sector over others may, in the longer term, make the rest of the economy less efficient. Indeed and there are no better examples of that that current bank regulations.

Mark Twain is rumored to have said: “A banker is a fellow who lends you his umbrella when the sun is shining, but wants it back the minute it begins to rain.”

And with their risk weighted capital requirements of banks, the current regulators added “A banker is a fellow authorized to leverage equity immensely much more when lending out his umbrella when the sun is shining, than when it seems it looks like it could rain.”

And with that banks have now realized their wet dreams of earning much higher risk adjusted returns on equity when lending to the safe than when lending to the risky, like SMEs and entrepreneurs; and with that banks no longer finance the risky future, they only refinance the safer past.

And all for nothing since major crises are never ever the result of excessive exposures to something ex ante perceived as risky, always of something ex ante perceived as safe but that ex post turned out to be risky.

Sandbu also refers to that Yngve Slyngstad, the head of Norges Bank Investment Management stated that “Norway’s sovereign wealth fund demands that boards pay particular attention to climate change, water management and child labour”

Though I generally believe it arrogant and dangerous to intervene in the markets, if Mr Slyngstad really wanted to help, he should then better support purpose weighted capital requirements for banks. Those would allow for higher risk adjusted returns on bank equity when financing something society finds has special merits… like water management and creating jobs for our young ones.

@PerKurowski ©