Many or perhaps most of our bankers would be much better off, at least happier, if they heeded George Bank’s “Let’s go fly a kite!”

Sir, John Gapper refers to “Two academics who studied investment bankers in London were surprised by their degree of cynicism and noted the absence of ‘meaningfulness, emotions and personal investment in work values’. “Bankers have been alienated from their jobs” July 11.

Call me a romantic if you want but, I know that when bankers who felt proud of being savvy loan officers were, with the introduction of the risk weighted bank capital requirements, pushed aside by equity minimizing and leverage maximizing financial engineers, there had to be a lot of frustrations.

Imagine if you as a loan officer had analyzed in depth the plan an entrepreneur presented in his credit application; and you had gotten to know him well; and you had agreed on a risk adjusted interest rate that made sense for both of you, and then your superiors told you: “No we can only leverage our equity 12.5 times with this loan so you either get him to accept a much higher interest rate, or we’re not interested”… and you knew that higher interest rate doomed the viability of the project? Would you not then feel like our beloved George Banks, that you’d better go and fly a kite?

Sir, most of those who became bankers during the last three decades must have a very hard time understanding what “It's a Wonderful World" is all about.

@PerKurowski

Europe, if you spoil your kids too much they will not grow strong. That goes for banks too.

Sir, Patrick Jenkins analyzes several concerns expressed about European banks when policymakers gathered to mark the retirement of Danièle Nouy from ECB’s Single Supervisory Mechanism (SSM); who is to be succeeded by Andrea Enria as the Eurozone’s chief banking regulator. “As European banks regulator retires, six big challenges remain” December 11.

The former Grand-Chair of the Federal Reserve, Paul Volcker, in his recent book “Keeping at it”, co-written with Christine Harper, recounts the following when, in 1986, the G10 central banking group tried to establish an international consensus on bank regulations and capital requirements:

“The US practice had been to asses capital adequacy by using a simple “leverage ratio”-in other words, the bank’s total assets based compared with the margin of capital available to absorb any losses on those assets. (Historically, before, the 1931 banking collapse, a ten percent ratio was considered normal)

The Europeans, as a group, firmly insisted upon a “risk-based” approach, seemingly more sophisticated because it calculated assets based on how risky they seemed to be. They felt it was common sense that certain kind of assets –certainly including domestic government bonds but also home mortgages and other sovereign debt- shouldn’t require much if any capital. Commercial loans, by contrast, would have strict and high capital requirements, whatever the credit rating might be.”

Sir, even though the Basel Accord was signed in 1988 and further developed in 2004 with Basel II, and with which the European risk weighting was adopted, I am sure we can trace the differences between US and Europe banks to these original differences on capital requirements. The US has been much more strict on capital than Europe. In fact the problems with American banks during the 2008 crisis were mostly restricted to those investment banks, which supervised by the SEC, had been allowed in 2004 to adopt Basel II criteria.

In Europe meanwhile banks could do with much less capital, which meant that much more was left over for bankers’ bonuses. In essence, Europe’s banks were dangerously spoiled. The challenge these now faces is having to substitute their equity minimizing financial engineers with good old time loan officers; and convince the capital markets of that. Good luck!

@PerKurowski

Risk weighted capital requirements expelled many traditional bank risks into the shadows

Sir, Patrick Jenkins, when discussing regulator’s growing concerns for the growth of shadow banking”, lists some reasons for why policymakers bear some of the blame, among these the “regulatory crackdown on banks in the aftermath of 2008 may well have derisked those institutions by boosting equity, thus cutting leverage. But it displaced many of the risks to non-banks”, “Why policymakers are to blame for the shadow bank boom”, October 2.

Did they really “derisk” banks, cutting leverage as a result of “boosting equity”, or was it not a continuations of banks expelling that what perceived as risky required them to hold more capital, all because of the permanence of a portion of risk weighted capital requirements? My opinion is that it is much more the second option that is at play.

The moment risk weighted capital requirements were introduced then the risk adjusted return on bank equity no longer depended on managing a portfolio of risk intelligently, with help of savvy loan officers, but financial engineering came into place, because then much of the bank returns on equity would depend on having as little equity as possible.

And of course bankers loved it. The less equity there needs to be, the more is left over for their bonuses.

And where would that “risky” business then go? To the shadows of course!

Jenkins writes, “The relatively loose regulation of many non-banks means data on areas of risk, such as leverage, are scant.” Indeed but it is very hard to believe that in the shadows they would allow remotely as generous leverages as regulators allowed the banks in the sunlight… like 62.5 times to 1 if only an AAA to AA credit rating was present.

@PerKurowski

Are bankers stopping their regulators from boarding a ‘listening bus’, scared these might wake up and then wake them up?

Sir, Gillian Tett asks: “can lofty chief executives ever find a way to get out of the C-suite and view life from a completely different perspective?” “Jamie Dimon’s ‘listening’ bus? Get on board”

Sir, of course it is good that Jamie Dimon, or anyone else for that matter, tries to listen to different opinions, though a bus is not really needed for that. 

But much more important than Jamie Dimon doing so it would be for the lofty besserwisser bank regulators to walk down Main street in order to learn more about banking, and life.

Then they might begin to understand that it is not what bankers perceive as risky which is dangerous to the bank system, it is what they perceive as safe.

But, being able to hold assets perceived as safe against so little of bank equity, meaning obtaining the highest returns on equity with what’s “safe” and not having therefore to venture into riskier terrains, sounds like a banker’s wet dream come true. Therefore perhaps it is bankers, like Dimon, whom all block regulators from leaving their desks, except for some controlled visits to Davos and Jackson Hole.

PS. As the less equity that needs to be compensated the more room there is for big banker bonuses, I am really not referring to an insignificant wet dream

@PerKurowski

FT, though fearlessly blaming accountants, seems to sheepishly favor bank regulators.

Sir you write: “Unscrupulous managers, increasingly rewarded with equity incentives linked to accounting measures, have exploited the system. By writing up asset values in line with market values — whether real or estimated — they could book profits, distribute dividends, boost share prices and make incentive payments. Consider investment bankers’ bonuses, distributed ahead of the 2008 financial crisis but based on asset values that tumbled only months later.” “Reform accounting rules to restore trust in audit” August 3.

I agree, quite often accounting is a tool used for not quite ethical behavior. But, when you refer to the investment bankers’ bonuses, you are sure pointing in the wrong direction.

I dare you dare to go back and look at how these investment (and European) banks, before the 2008 crisis, were leveraged with assets perceived (mortgages), decreed (sovereigns) or concocted (AAA rated securities) as safe. Do you think that if they had been required to hold as much capital against these assets, as they needed to hold against assets perceived as “risky”, like loans to entrepreneurs, there would have been room available for all those bonuses? No way Jose!

And you do seem to suggest somehow that the accountants, before that crisis, should have considered the possibility of asset values tumbling only months later. Sir, the explosion, and its real causes, is much more important than the how it is accounted. If accounting is to become even more predictive then we are surely feeding even more worms into that open can of undue behavior.

When we have regulators who believe that what is perceived as risky is more dangerous to our bank systems than what is perceived as safe, I assure you that much more important than reforming any accounting rules, is reforming bank regulation rules. 

Sir, whenever, for whatever great sounding reason, it is argued that banks should not be required to hold more capital, you can be sure there are some neo-bankers thinking about their bonuses behind it.

PS. Neo-bankers? Yes because that is not the bankers I remember. Then they were savvy loan officers, now they are just equity minimizing financial engineers. I am sorry for feeling quite nostalgic.

PS. Most of the bonuses that are currently paid out to bankers, are still firmly rooted in the low capital requirements against what is perceived, decreed or concocted as safe.

@PerKurowski

Bank regulators violated the holy intergenerational social contract that Edmund Burke spoke about.

Sir, Philip Stephens writes: “Nostalgia has always had its place in politics. Respect for tradition is at the heart of Burkean conservatism. The deep irony about the now mythologised postwar decades, however, is that these were times when citizens looked unambiguously to the future.” “Nostalgia has stolen the future” July 27.

I am from 1950, and I do feel nostalgic whenever I think of all those savvy credit officers who were now substituted by equity minimization financial engineers.

When regulators, in order to make our banking system safe, ludicrously decided that what was perceived as risky was more dangerous to bank systems than what was perceived as safe, they distorted the allocation of bank credit in favor of the “safer” present so much that they de facto sacrificed that risk taking the “riskier” future needs. That is an egregious violation of that holy intergenerational social contract that Edmund Burke spoke about.

Those regulators are autocratic besserwisser populists who concoct their ideas, in a groupthink séance, in their Basel Committee mutual admiration club!

“Populists”? “We will safeguard your bank systems with our risk weighted capital requirements for banks” As if they knew what those risks were. Sir, can you think of something more populist than that?

@PerKurowski

High bankers bonuses results from having to remunerate very little shareholders’ capital

Lex writes: “More than 700 high earners last year in Deutsche Bank were paid a weighted average of €1.9m a year”. July 11.

What would they be paid if the bank needed to hold 10% in capital against all assets? The equity minimization is the prime driver of high bonuses. 

@PerKurowski

The Basel Committee stupidly made banks substitute savvy loan officers with equity minimizing financial engineers

Sir, John Plender, reviewing Philip Augar’s “The Bank That Lived a Little” writes: Not so long ago banking was a relatively simple business whose main focus was on deposit-taking and lending. Then in the 1980s everything changed as a powerful tide of deregulation swept through the industry… courtesy of Ronald Reagan and Margaret Thatcher”, “Head rush”, July 7.

Was it “deregulation” or plain missregulation? The main change that was introduced in banking, in 1988, with the Basel Accord, was the risk weighted capital requirements for banks. 

That meant that from there on, the risk-adjusted returns on bank equity were not to be maximized by savvy loan officers, but by equity minimizing financial engineers.

And clearly “increasing amounts of risk in relation to dwindling cushions of capital” allowed the bonuses of bankers to be so much higher.

Has banking “turned into an ethics-free zone”? Yes, but blame the regulators for much of that. Now, 30 years later, I would think there is no room to put the blame on Ronald Reagan or Margaret Thatcher. 

Frankly, since FT has not dared to ask regulators why banks have to hold more capital against what is dangerous perceived as safe than against what is made innocous by being perceived as risky, as I see it, FT is so much more responsible for all this mess.

@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

Why does the “Without Fear and Without Favour” FT, not ask bank regulators questions I have suggested for a decade?

Sir, Gillian Tett writes: “The financial world faces at least three key issues, with echoes of the past: cheap money has fuelled a rise in leverage; low rates have also fostered financial engineering; and regulators are finding it hard to keep track of the risks, partly because they are so fragmented. “The corporate debt problem refuses to recede” January 9

Sorry, it is much worse than “regulators finding it hard to keep track of the risks”. It is that regulators have no understanding of how they, with their risk weighted capital requirements for banks, have in so many ways distorted the reactions to risks.

And much more than cheap money fueling a rise in leverage, it is the bank regulators who, like with Basel II in 2004, allowed banks to leverage a mind-blowing 62.5 times with assets only because they possessed an AAA to AA rating, started it all. . 

And when it comes to financial engineering, it is the regulators who caused banks to send into early retirement many savvy loan officers, in order to replace these with skilled equity minimizer modelers, who allowed for the highest expected risk adjusted returns on equity (and the biggest bonuses). 

The regulators, by favoring what is “safe” on top of what is perceived as “safe” is usually favored, only guarantee that safe-havens will become dangerously overpopulated, against especially little capital. Great job chaps!

Why has Ms. Tett, or many other in FT, not asked regulators, for instance what I believe I the quite interesting question of: Why do you want banks to hold more capital against what, by being perceived as risky, has been made innocous to the bank system, than against what, precisely because it is perceived as safe, is so much more dangerous?

One explanation that comes to my mind is John Kenneth Galbraith’s “If one is pretending to knowledge one does not have, one cannot ask for explanations to support possible objections”, “Money: Whence it came, where it went” (1975)

Sir, the Basel Committees’ “With the risk-weighted capital requirements we will make banks safer”… is cheap and dangerous populism hidden away in technocratic sophistications. Sadly it would seem the Financial Times has fallen for it, lock, stock and barrel.

Oops! I guess I will never be invited to a "Lunch With FT" 

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

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

Just wait until the music stops playing the low interest rate tango building up corporate balance sheet leverage

Sir, John Plender, when discussing IMF’s latest Global Financial Stability Report writes: “Low yields, compressed spreads, abundant financing and the relatively high cost of equity capital, it observes, have encouraged a build-up of financial balance sheet leverage as corporations have bought back equity and raised debt levels…Rising debt has been accompanied by worsening credit quality and elevated default risk.” “Beware the curse of buybacks that destroy shareholder value” October 31

Clearly this is another music that keeps bankers dancing, even when they know they shouldn’t, not for their own or for the economy’s sake.

In July 2014, commenting on an article by Camilla Hall on this subject I wrote: “Ask any old retired banker what was his first question to a prospective borrower and you would most probably hear him say: “What do you intend to do with the money if I lend it to you?” The banker would not have liked to hear “To pay a dividend or buy back some shares”.

Not any longer. Now his first priority is to think about how he can construe the operation in such a way as to minimize the capital needed, so that he could max out leverage too… and pay dividends and buy-back shares too.

But why should we assume only bankers are to behave responsibly? It takes two to tango. The regulators, with their risk weighted capital requirements clearly indicate they do not care one iota about the purpose of banks, and the central bankers, they just keep on kicking the crisis can down the road with QEs and low interest rates.

https://teawithft.blogspot.com/2017/05/low-interest-rates-cause-buy-backs.html

@PerKurowski

With risk-weighted bank capital requirements promoting risk aversion, Britain will go nowhere, with or without Brexit

Sir, Martin Wolf writes: “UK’s average productivity is at best mediocre and its productivity growth post-crisis is in the basement, down there with Italy’s. Investment is weak and relative export performance consistently dismal. Contrast Germany.” “Zombie ideas about Brexit that refuse to die” October 21

So, when he then argues “It will be impossible to offset the loss of favourable access to EU markets, which now take some 40 per cent of the UK’s exports” a natural question is, would not those losses seem to happen anyhow, with or without Brexit?

Could it in fact be that “favourable access” has dangerously hidden other profound problems?

I would never have voted for Brexit, but that might only be because I do not know Britain well. Had I for instance thought that it was becoming more and more dependent, on a not so dependable EU, I might have voted otherwise. Because frankly, EU is in great need of some real shaking up too, in order not to fall into the hands of those populists both Martin Wolf and I so profoundly fear.

Of course Wolf is right when he says “In a liberal democracy, we are all entitled to our opinions and to seek to overturn what we consider grossly mistaken decisions.” But Sir, should that not require something more than just being against “saboteurs with zombie ideas”?

Should that not include proposals about what Britain could do in order not to have given the Brexit vote a chance? And, who knows, those changes could be just as important or even more important than staying in the EU.

Clearly taking on debt to propel consumption, plus building a lot of infrastructure caring not sufficiently about the fact that we might not know enough about what infrastructure could be needed twenty years from now, sounds like a very comfortable plan for the short term. But, is it enough for Britain’s grandchildren or their children?

Personally, as Wolf very well knows, I would put the elimination of bank regulations that dangerously distort the allocation of bank credit to the real economy, very high on that list of proposals.

The first banks to do that have the best chance of becoming the strongest banks in the future. Is it not high time for Britain’s banker to return to being savvy loan officers, instead of the silly bank capital (equity) minimizers they have now become?

PS. Frankly the idea you can identify all risks, and stop these from happening, without unexpected consequences, seems to me one of the mother of all zombie ideas of our times.

@PerKurowski

Bankers instead of being savvy loan officers generating growth, have turned into dangerous addicted equity minimizers

Sir, Ben McLannahan quotes Paul D’Onofrio, the chief financial officer at Bank of America, with that he welcomed any “refinement” to rules that “allows us more access and control over our capital [and] liquidity in support of responsible growth”, “End of the crisis-era growth taboo at US banks”, October 19.

Sir, that is a recipe for disaster. First it will of course lead to that banks will go on minimizing the equity they hold, trying to leverage more, so as to earn higher risk adjusted returns on equity. That will not make banks safer or, most importantly, make them allocate credit efficiently to the real economy. 

The result is that banks will keep on lending too much to what is perceived, decreed or concocted as safe, against too little capital; something which is the perfect recipe for bank system failures.

And that banks will lend much less than what they should, to those that are perceived as risky, like for instance to SMEs and entrepreneurs, something which is the perfect recipe for a stagnating economy.

Tim Adams, president and chief executive of the Institute of International Finance, with reference to the Fed’s mandate mentions: “I think there’s a different mandate now, [which is:] how do you ensure the system is safe and sound and resilient while also ensuring you have balanced growth and that financial institutions can support economic activity?”

Sir let me tell you how! By having one single capital requirement, like a reasonable ten percent, to apply to all assets, except cash.

McLannahan also writes that Mike Mattioli, a portfolio manager at Manulife Asset Management in Boston opines: “Reasons to be upbeat include growth in mortgages, a return of “animal spirits” in small-business borrowing, and a “little bit more leverage” in balance sheets, as regulators allow banks to return more capital in the form of dividends and share buybacks.”

“Growth in mortgages”: Sir, do we really need much of that?

“A return of “animal spirits” in small-business borrowing”: Sir, while that requires banks to hold more capital than against other assets, the banks will not be there to lend to these “risky” borrowers.

“Regulators allow banks to return more capital in the form of dividends and share buybacks so “little bit more leverage”: Sir, that really sounds scary, as that would indicate regulators have not understood anything about what is going on. Bankers instead of maximizing returns on equity by being savvy loan appraisers have now for that turned into addicted equity minimizers.

​PS. FT​'s continuing lack of curiosity is astonishing

@PerKurowski