Anyone not denouncing the distortions produced by bank regulations has little right to lecture EU on morals

Wolfgang Münchau writes “Monetary policy mistakes caused a fall in Eurozone wide inflation rates that made it impossible for Greece and other periphery countries to improve competitive they lost in the early years of monetary union”, “By playing it safe for now, Europe puts its future at risk” March 2. 

And so what Münchau seems to suggest that all other European countries should produce high internal inflation, so as to allow Greece to be competitive. Sincerely, if I was a German, and that was the plan my government presented, I would immediate try to fire my government.

It is by playing it silly safe, with credit risk weighted equity requirements for banks, which blocks fair access to future builders like SMEs and entrepreneurs that Europe is putting its future at risk.

Of course “EU should have confronted Greek debt… early on” but, without getting rid of the distortions produced by regulations in the allocation of bank credit to the real economy, that would not have mattered.

PS. Mr. Münchau, give us one single bank crisis resulting from an excessive exposure to something that was perceived as risky when banks placed that asset on their balance sheet.

The future of current and future pensioners is being pickpocketed by distortive bank regulations.

Sir you discuss capping pension fees in “Plug the deficit on pension regulations” December 27.

In it you hold that “workers need to save more… but they also need to invest wisely”, that “Vigilant regulation is needed to make sure that unsuspecting savers do not end up being pickpocketed”, and that “Savers should be grateful if business ideas that depend on charging unreasonable high fees never see the light of day”.

And solomonically you end holding that “Regulators cannot ensure that every provider charges a fair price. But they should give consumers the means of looking after themselves.”

How good of you! But why do you not dare to care more about how the future of current and future pensioners, like that of so many young without job, is pickpocketed by distortive bank regulations? These certainly cause much more damage than some unreasonable high fees.

“Invest wisely?” In an economy in which the capital requirements for banks are based on perceived risks already previously cleared for? In an economy where banks are therefore investing on preferential leverage terms in what is perceived as “absolutely safe”? Where are then pension funds to go? To finance railroads in Argentina perhaps?

QE is a drug that has been applied by the Fed in an emergency without going through any FDA type testing procedures

Sir, Barry Eichengreen considers that “The Fed’s monetary tweak is a tempest in a teapot” December 20.

But, considering the fact that the monthly reduction of $10bn in QE gets so much more attention than the $75bn that the Fed will keep on injecting in the economy, in a quite distortive way, all on the long side of the market, all for the treasury and the housing sector, then perhaps a teapot being in a tempest, could be a more adequate simile.

Eichengreen also holds that “the central bank has signaled that it is not prepared to return to normal times until a normal economy has returned”. Sorry, then we might never get there. 

A normal economy will not return until regulators stop using risk weighted capital requirements for banks. Because these allow banks to earn much higher risk-adjusted returns on equity financing the infallible sovereigns and the AAAristocracy than when financing the “risky” medium and small businesses, entrepreneurs and start-up, they do the facto guarantee the market to be abnormal.

And Eichengreen ends by referring to Hippocrates… “It has at least done no harm” What? Is that not something yet to be seen?

Paul Volcker and John Reed, our jobless young, more than a safer, need a more functional financial system

I cannot fully agree with Paul Volcker and John Reed about having a 6% cross the board capital requirement “standard alongside a robust system of risk weights” unless there is more clarity about what risk are to be weighted, “A safer financial system is now within our grasp”, December 12.

I say this because the problem with the current risk weighting used is that it weighs that risk of the assets which is already weighted, by means of interest rates, size of exposure, duration and other terms. And so, re-clearing for the same risk in the capital, causes banks to earn much higher risk adjusted returns on equity for assets perceived as “absolutely safe” than for assets perceived as “risky”; and this makes it therefore impossible for banks to allocate bank credit efficiently in the real economy. 

At this moment, when a generation of young people without jobs risk becoming a lost generation, the limited objective of a safer financial system needs urgently to be superseded by the much more comprehensive objective of banks becoming more functional.

“Why has the Fed given up on America’s unemployed?”, is a question that is at least a decade late

Sir, Adam Posen, the president of the Peterson Institute for International Economics asks, “Why has the Fed given up on America’s unemployed?”, August 21.

He should have asked that long ago, because when the Fed, as a bank regulator, accepted the thesis that banks could have much lower capital requirements when holding exposures to the “absolutely safe” AAAristocracy, than when lending to the “risky” medium and small businesses, entrepreneurs and start-ups, the Fed helped to impose regulatory risk-aversion, and thereby gave up on the risk taking needed to keep the real economy producing jobs.

The world (Japan) does not need inflationary expectations it urgently needs more rational bank regulations

While the banks, by means of minuscule capital requirements for what is perceived as absolutely safe, are reigned in from taking on exposures to what is perceived as risky, at the same time central banks allow themselves to run extremely risky monetary experiments. Something is way wrong!

Sir, in “Japan embraces monetary change”, April 5, you hold that though “an impressive package of quantitative easing… may have adverse consequences… there was no alternative.

Wrong! More than anything Japan, UK and all other Basel Committee subjects too, need to rid themselves from silly bank regulations which favor “The Infallible” and therefore discriminate against “The Risky”. Get a grip on yourselves! In the real economy, what is absolutely absent is what is “absolutely safe”.

Any quantitative easing, keeping these regulations in place, only doom the banks to dangerously overpopulate whatever is perceived as “safe havens”, holding too little capital, and thereby making the world a much more riskier place.

Current capital requirements for banks represent, for the risky real economy, the biggest source of deflationary bias.

Sir, Sir Samuel Brittan, in “Forget trying to change Germany – or any other country”, April 5, in reference to what in his opinions are not sufficiently expansionary fiscal and monetary policies, for instance by Germany, writes that “the whole system has a deflationary bias when the world least needs it”. 

I will not argue against that but, let me assure you that the current capital requirements for banks, which so odiously discriminate against all what is not officially perceived as absolutely safe, represents, with respect to the real economy, that in which “absolutely safe” is absolutely absent, the mother of all deflationary biases. 

And if we cannot, as Brittan holds do much about what countries do with their own fiscal and monetary policies, and need to treat those as exogenous events, accepting or not the Basel Committee nonsense, is indeed a quite endogenous decision. The only thing needed is for one or two finance ministers to ask their regulators to explain the why of those capital requirements, and then to be prepared to act decisively upon receiving  any mumbo jumbo answers.

Bank regulators, by entitling “The Infallible”, are not behaving like good citizens, and neither is FT

Sir, in “Barclays and the entitlement culture”, April 4 you write that “banking is crucial for the functioning of the economy and banks should be good corporate citizens” and who can dispute that.

But let me again remind you, for the umpteenth time, that with their capital requirements for banks based on perceived risk, bank regulators are de-facto entitling “The Infallible” and thereby discriminating against “The Risky”, and this does not permitting banks to allocate economic resources efficiently.

And so when I compare how much FT loves to hit out at bankers, with how little it wants to criticize the bank regulators, and who should be good citizens too, you are revealing a bias that also allows us to question your good-citizen status.

We should not go from “pseudoscientific calculation of risk-weighted assets” to Talibanesque capital requirements

Sir, currently there are many papers analyzing the impact of higher capital requirements for banks on their lending rates. Some say it will be minor, others somewhat important.

What is amazing though is that all these papers are written ignoring the fact that based on risk-weights, lower and higher capital requirements which result in differences in lending rates based solely on regulations already exist. These regulatory induced interest rate differential favor much “The Infallible” and thereby discriminate much against “The Risky”; and make it impossible for banks to allocate economic resources efficiently.

Therefore when in John Kay’s “The bungled bailouts that heralds an overdue shift in attitudes” April 4 he writes of “The combination of useless regulation, irrelevant regulations and state guarantees”, I feel I could live with all that, albeit of course much smaller and more disciplined state guarantees, as long as we could get rid of the dangerous regulations which distort.

And without those dangerous distortive regulations, the banks would not need the huge capital that some propose. Frankly ee do not need to go from one “pseudoscientific calculation of risk-weighted assets” extreme to Talibanesque capital requirements, unless of course what we really want is for private banks to disappear, taking refuge in the shadows.

PS. Why has it taken so long for Kay to call the pillar of Basel II regulations “pseudoscientific”? And why is it not in him to admit that I have been calling the Basel bluff for more than a decade now, with more than 1.000 letters to FT, like this letter to John Kay in May 2010. It is a bit petty of him, wouldn’t you say?

The first step needed to stop global finance and local economies from disintegrating.

Sir, Howard Davies and Susan Lund write about the risks of “a system where nations rely on domestic capital formation and concentrate risk in local banking system”, "Three steps to stop global finance disintegration” March 21, 2013.

I disagree. The surreptitious global capital control system imposed by the Basel Committee, with their capital requirements based on perceived risk, concentrates bank exposures, everywhere, to what is perceived as “absolutely safe”. In other words it might be more correct to say “concentrate safety in local bank system”.

Even now, while Basel II is still in effect, a German bank can lend to a triple A rated borrower anywhere, holding only 1.6 percent in capital, meaning being able to leverage 62.5 to 1 its equity, while, if lending to a “risky” German small business or entrepreneur, it needs to hold 8 percent in capital, a leverage of 12.5 to 1. That makes it impossible for the banks to allocate resources efficiently in the real economy.

And so to me the most important step the banking system needs to take is to dismantle that odious Basel regulations which favor “The Infallible”, those already favored, and discriminate against “The Risky” those already being discriminated against. That, which can be done, will be no easy task as so many imbalances have already been built into the system.

But that most probably requires firing all current bank regulators who after more than five years since the mistake must have become apparent, are not recognizing it, and indeed, with Basel III and its liquidity requirements also much based on perceived risk, are digging us even deeper into the hole.

In banking, margins paid by big “infallible” guys are worth much more than those paid by little “risky” guys

Sir, Luke Johnson writes “Margins give the little guys a chance” March 6. That might be, but absolutely not when accessing bank credit.

Because of the capital requirements for banks based on perceived risks, the risk and cost adjusted margins paid to the bank by the little guys, “The Risky”, Luke’s entrepreneurs, are worth much less than those same margins paid by the big guys “The Infallible”, simply because the banks are authorized to leverage the latter many times more.

This distortion has castrated our banks. Our current bank regulators completely ignored the fact that our economies became prosperous, not by silly risk-avoidance, but by intelligent risk taking.

And as result our economies are ingesting more of what is perceived as “safe”, carbs and fats, while dangerously ignoring to take sufficient “risks”, that protein which helps it to grow muscles and become sturdy, and our economies are becoming obese and flabby.

Stop your fixation with bankers’ bonuses tree, and look at the forest of misallocated resources instead

Sir, I agree with much of what Andrea Leadsom writes in “Britain must do whatever it takes to nix the bonus cap”, March 5. 

That said I wish he and you would all stop focusing on the trees and look at the forest instead. Much worse than unmerited bonuses are all those missed opportunities and misallocated resources which result from the current bank regulators having concocted dumb capital requirements for banks which favor “The Infallible”, those already favored, and thereby additionally discriminate against “The Risky”.

Sadly there is no way to clawback missed opportunities and misallocated resources

Sir, Patrick Jenkins argues a lot on the benefit of “clawback” in “The time has come to rehabilitate bankers’ bonuses” March 5. And of course, intelligent “clawback” of bonuses is much welcomed, especially for the shareholders who otherwise need to foot the full bill.

But, for the society as a whole, much much worse than unjustified paid bankers’ bonuses, are all those missed opportunities and misallocated resources which have resulted from the current bank regulators having concocted dumb capital requirements for banks which favor “The Infallible”, those already favored, and thereby additionally discriminate against “The Risky”.

And sadly, there is no way to “clawback” that. It is even worse, in this case the regulators do not even want to recognize their mistake, and instead are set on carrying on business as usual.

“In the short term, all you need to do to make more money for a bank is take more risk”. Not so fast Mr. Authers

Sir, John Authers titles absolutely correctly “Bonuses are only a symptom of banking’s true problem” March 4. But when he then writes, “in the short term, all you need to do to make more money for a bank is take more risk”, I am not really sure he´s got it.

First it used to suffice to talk “about making more money for a bank”, because all risk were evaluated using the same standard, meaning the same capital base, but, ever since different risks require holding different levels of capital, it is much more accurate to talk about the real end results, meaning that of producing higher returns on equity.

And also it is absolutely not true, even in the short term, that for a bank to make more money, it is enough to take more risks, as long as risk premiums are priced correctly and there are no distortions. What happened now was not really about banks taking more risks, but that the risk-premiums of what is perceived as absolutely safe, were by the regulators allowed to be leveraged many times more than the risk-premiums of what is perceived as risky.

In other words what applies in these Basel II days, and seems to be continued in Basel III is: In the short term, all you need to make more money to the banks, is to leverage more what is perceived as less risky.

John Authers is very correct though when he points out “Limit the leverage that banks can use, and require them to hold more capital, and … These measures [and other] might help create a banking system that can sensibly allocate savers’ capital to productive investment opportunities. The pay issue, to the extent there is one, is dealt with in the process”. 

But, Mr. Authers, why did it take until March 2013 for you to ask for “a banking system that can sensibly allocate savers’ capital to productive investment opportunities”? Is that not a hundred times more important than what excessive banker bonuses might be?

Besides a necessary U-turn, we must also get rid of those currently responsible for bank regulations reform

Sir, by the tone of Elemér Terták, the Principal Advisor to the Director General for Internal Market and Services, in “Bank reform is gathering pace: no U-turn necessary”, February 26, the European Commission seems to be extremely upset by some recent remarks made by Sony Kapoor in “Europe must reset bank rules to restore investor faith”, Insight, February 14. How dare Kapoor criticize for instance “state of the art framework for bank recovery and resolution”?

But I certainly do want a U-turn in bank reform, and which Kapoor did not even refer to:

Right now the fundamental pillar of bank regulations is the capital requirements for banks based on perceived risk. Much more capital for exposures to what is perceived “risky”, than for exposures perceived “safe”.

And that means that banks are able to obtain a much larger expected return on equity leveraging much more the risk-adjusted interest paid by “The Infallible” than what they are allowed to do with the risk-adjusted interest paid by “The Risky”.

And that amounts to favoring those already favored by banks and markets, and thereby discriminating against those already discriminated against by banks and markets.

And that is so dumb because since bank crises only results from excessive exposures to “The Infallible” who were not so infallible after all, and never from excessive exposures to “The Risky”, that only guarantees that when disaster strikes the banks will have too little capital. 

And that is odious, not only since it increases the gap between “The Infallible” and “The Risky”, but also because it creates distortions which make it completely impossible for the banks to allocate resources efficiently and help to create the jobs which are so much needed, especially by our young.

Come to think of it, since that regulation is so bad, and since the current regulators can’t even seem to understand that, not only is a U-turn required, but we must also get rid of them all.

No problem can be solved from the same level of consciousness that created it.

Albert Einstein

Pray for a mea culpa by a bank regulator, or extract a confession from them by force (no waterboarding)

Sir, in “Europe must reset bank rules to restore faith”, February 14, Sony Kapoor writes “Five years into the crisis and it is still not clear where EU financial regulations are heading” and that “EU needs to reset its approach to financial reform” and suggesting “launching a high-powered public inquiry [to] help hold public officials and bankers to account so that public trust can restore”. 

Good luck with that! I have over a number of years, starting even before the crisis, in perhaps a hundred of venues, asked regulators some simple questions they refuse to answer. That they do because doing so would reveal the monstrous regulatory mistake they made when, thinking themselves able to be the risk managers of the world they created, especially in Basel II, their capital requirements for banks based on perceived risks, which is completely against common sense. 

The reform process is indeed paralyzed, especially when they now even begin to understand that their new concoction in Basel III, liquidity requirements also based on perceived risk, can only make things so much worse. 

What to do? Our best chance is finding a daring political leader that can pull out with force an answer from the regulators; the other possibility is that a courageous important regulator or ex-regulator, like for instance Mario Draghi steps forward with a strong mea culpa. Fat chance! 

As just one example of the unanswered question here is a link to a post in the IMF blog from August 2010.

Happy birthday Financial Times. On this your 125th year could you please explain your motto to us?

Sir, there is little so dumb, so indefensible and so damaging to the economy, as capital requirements for banks which are much lower for whatever is perceived ex ante as “absolutely safe” than for what is perceived as “risky”

That ignores completely that the origin of all major bank crises lies entirely among those deemed “The Infallible” but which ex-post turn up to be quite fallible, and never ever among those who were ex ante correctly deemed to be “The Risky”.

And, by favoring what is already favored by the banks and markets, and discriminating against what is already discriminated against by banks and markets, that introduces distortions that makes it completely impossible for banks to perform their vital social function of an efficient economic resource allocation.

Just as an example those loony regulations, Basel II, required banks to hold 8 percent in capital, a leverage of 12.5 to 1 when lending to “The risky”, like small businesses or entrepreneurs, while allowing banks to hold only 1.6 percent in capital, a leverage of 62.5 to 1, when lending to a sovereign like Greece or investing in a security rated AAA to AA.

And among those regulators we find names like Lord Turner and Mario Draghi, names upon which heaps of praises have been poured on by FT over the years, names who have not been criticized by FT one iota for their regulatory stupidity.

That is why, in this the 125th year of FT, I would like to know when you adopted the motto of “Without favor and withour fear” and what that motto signifies.

I ask this, because I do agree with Nigel Lawson in that in this world “the FT has a unique role to play as a fount of reliable information and informed comment”, “No print rations, no clubby City – but the FT’s role endures” February 13.

And I ask this because your refusal to spell out these arguments allows the regulators to dig us even deeper into the hole when they, in Basel III, also want to introduce liquidity requirements based on the same ex ante perceived risks.

Happy birthday!

No Mr. Martin Wolf, our banks are not terminally ill, and we don’t have to go communist

Sir, imagine being a director in an old fashioned bank board which approves all credits, one at the time. And then think about how you and your colleagues would proceed if, in a corner of the board room sat a regulator who ordered you to allocate a certain amount of capital for each credit, depending on the risk of the borrower, as perceived by a credit rating agency. It would of course be impossible for you to allocate the bank credits in such a way that maximizes economic growth. But that is in essence what happens today, and so we have a banking system that has become completely dysfunctional.

But this regulatory intrusion in the credit allocation system of the banks, and which among other allows banks to create money when lending to “The Infallible” against almost nothing of their own capital, and which de-facto penalizes the lending to “The Risky”, is still much ignored, perhaps even on purpose.

For instance when Martin Wolf asks: “Why should state-created currency be predominantly employed to back the money created by banks as a byproduct of often irresponsible lending?”; and follows up with a “the case for using the state´s power to create credit and money in support of public spending is strong”; he is arguing his point based on the premise that our banking system is irreversibly damaged. And based on that he suggests we should leap into a system where government bureaucrats substitute for private decision making, and “discussions between the ministry of finance and the independent central bank substitutes for markets, “The case for helicopter money…” February 13.

Yes Mr. Wolf “Cancer sufferers have to undergo dangerous treatments”, but these have to be the correct treatments. And the most correct treatment of our banking system is to help our banks to get rid of those obnoxious regulatory intruders (like Lord Turner) who so stupidly, and odiously, favor those already favored and discriminate those already being discriminated against by the markets.

Many years ago, I set up a blog titled the AAA-bomb, and where in jest I described how a disgruntled unemployed former Kremlin bureaucrat sat out to destroy the “enemy” by planting the idea of capital requirements based on perceived risk in the middle of its banking system.

But when Martin Wolf writes about fiat money promoting public spending in terms of morality, and ignores the fact that the banks’ boardroom intruders already allow banks to lend to the infallible sovereign without holding any capital, I get that uncomfortable sinking feeling that perhaps there is more of a conspiracy to it than what I ever thought possible.

Does this mean I am an extremist set against any government stimulus or deficit? Of course not! But I do believe we must see to that our economic resources are efficiently allocated by the banks, before we waste whatever fiscal and monetary space we might have available. 

PS. Wolf begins by quoting Mark Twain saying “It ain’t what you don’t know that gets you into trouble. It’s what you know for sure that just ain’t so”. That is something that clearly describes the sheer stupidity of capital requirements for banks based on trusting too much ex-ante perceptions of risk to hold up ex-post.

PS. Lord Adair Turner in the “Debt, Money and Mephistopheles” lecture referenced, speaks about “pre-crisis financial folly – above all the growth of excessive leverage”. But there is not one word about his shameful role, as a regulator, in creating the crisis. Not a word about that he thought it was ok for a UK bank to hold 8 percent in capital, a leverage of 12.5 to 1 when lending to a “risky” UK small businesses or entrepreneur, while allowing banks to hold only 1.6 percent in capital, a leverage of 62.5 to 1, when lending to a sovereign like Greece or investing in a security rated AAA to AA.

Does FT dare to forward two simple questions to Mark Carney he might not dare answer?

Sir, I refer to Chris Giles “The five important questions that Carney must answer”, February 7.

As you very well know there are some questions that though they seem unimportant to you, are very important to me. Therefore I would very much appreciate it if, given a chance, “without fear”, you could forward to Mr. Carney the following two questions. Though quite simple and straightforward they seem strangely to have become, at least for those in charge of bank regulations, two completely unanswerable questions.

Question 1:

Current bank regulation’s rest on capital requirements for banks based on perceived risks.

What is perceived ex ante as absolutely safe, and therefore already benefits from lower interest rates, higher loans and more lenient terms¸ is benefited by causing lower capital requirements for banks, which produces higher risk adjusted returns on bank equity, leading to even lower interest rates, even higher loans and even more lenient terms.

What is perceived ex ante as risky, and which therefore already has to pay higher interest rates, receive smaller loans and under harsher terms¸ is discriminated against by means of causing higher capital requirements for banks, which produces lower risk-adjusted returns on bank equity, leading to having to pay even higher interest rates, receive even smaller loans and under even harsher terms.

Therefore Mr. Mark Carney, since you are the Chairman of The Financial Stability Board, I would like to ask: Do these capital requirements for banks not fundamentally distort economic signals and make it impossible for our banks to perform their vital social function of allocating economic resources in an efficient way.

Question 2:

As a result of the previously mentioned capital requirements, bank lending to what is perceived as an “infallible sovereign” causes virtually no need of bank capital. And this of course means that the “infallible sovereign” needs to pay a much lower interest than would otherwise have been the case in the absence of these regulations.

Therefore Mr. Mark Carney, since you are an experienced central banker, could one not say that the interest rates to the “infallible sovereign”, a rate often used as an approximation of the all important risk-free rate, is now being subsidized, leading us, and you, to not knowing where the hell we find ourselves?

The fiduciary duty of financial journalists includes drawing attention to violations of the bank regulators fiduciary duties… capisce FT?

Sir John Kay writes “The reputation of finance has been degraded by the actions of few. But the few have been running the show” and I totally agree with him, though let me be clear, he refers to some few bankers, and I refer to some few bank regulators, “A Swansea ballboy¸ a union leader and the duty of bankers”, February 6.

If “fiduciary standards describe how people should behave when they manage the affairs of others” and if “in a sector as extensively regulated as financial services [where] the main determinant of behavior is the rule book”, is it not so that the absolutely highest fiduciary standards should then have to be expected from those who write the rule books for banks?

The whole package of Basel Committee bank regulations is in my mind in total violation of a regulators' fiduciary duties. Not only does it give banks immense incentives to create excessive and exposures to what is perceived as absolutely safe and which has always been the source of bank crises, but also, by discriminating against “The Risky” it hinders the banks to perform their most important societal duty of allocating economic resources efficiently.

And let me also remind you that one very important fiduciary duty of financial journalists is to, “without fear and without favour”, draw their readers’ attention to violations of bank regulatory fiduciary duties… capisce John Kay, and all you others in FT?