An ESM European bond insurance scheme would make Eurozone sovereign debt crises bigger and more likely

Sir, Michael Heise, chief economist at Allianz writes: “An idea that might be capable of preventing or at least mitigating bond market dislocations is a European bond insurance scheme [operated by the European Stability Mechanism]… It avoids the heavy political burden of debt mutualisation and austerity regimes, actively encourages private sector lending and reduces contagion between sovereign debtors.” “Insurance tackles danger of sovereign bond shockwaves” December 4.

Heise explains:“A critical issue would be the setting of the premiums… A simple formula could apply: the triple A refinancing costs of the ESM, plus a risk premium that reflects both the rating of the country and any progress it has made on its public finances.”

It all sounds very rational, and such an insurance scheme would obviously be very useful for some in the case of a sovereign debt emergency. The harder and more important question though would be whether the existence of such scheme makes a sovereign debt crisis more likely or not.

For the purpose of the risk weighted bank capital requirements EU authorities assigned a 0% risk weight to all those sovereigns within the Eurozone, even though these de facto do not have their public debt denominated in a local domestic (printable) currency, the euro.

That stopped the markets from sending the correct signals and helped caused for instance Greece to contract public debt way in excess of what it should have done. 

Heise correctly states: “Set the insurance premiums too low and it degenerates into a disguised eurobond, a bond whose liability is jointly shared by eurozone countries.”

Sir, there is no doubt in my mind that those insurance premiums would be set way too low by any Eurocrats, and so in fact an ESM European bond insurance scheme would act as another non-transparent sovereign debt pusher, and thereby make any crises likelier and bigger. And that’s not the way to go about solving the challenges posed by the Euro twenty years ago.

@PerKurowski

Which bonds, the high-yield or the low-yield, cause the most sufferings when things go wrong?

Sir, Robert Smith quotes Inge Edvardsen, head of fixed income sales at Pareto Securities with “High-yield bonds offer high returns with associated risks but it is of course unfortunate when our clients suffer losses”, “Dreams turns to Sweden for high-yield deal as UK retailing debt feels strain” November 23.

Similarly Edvardsen could have said “Low-yield bonds offer low returns with associated risks but it is of course unfortunate when our clients suffer losses” 

So let me ask you Sir, which of the bonds, the high-yield or the low-yield, do you associate with clients suffering the most when things go wrong?

I have no doubt; it is the low-yield-low-perceived-risk ones, because these usually attract the highest portfolio exposures at the lowest risk compensation premiums.

But, our bank regulators, they think differently; they think the high-yield-high-perceived bonds cause more sufferings, because those would be the bonds against which they would require banks to hold more capital.

It’s all so dangerously loony to me. Our current bank regulators have clearly confused ex ante risks with ex post dangers, and they have not the slightest idea about what conditional probabilities mean.

Sir, it sure surprises me that you seem to agree with the regulators.

@PerKurowski

Why is it good for all to allocate their risk premiums adjusted investments according to the needs of their portfolio… except for banks?

Sir, Jonathan Wheatley writes:“Here’s a mystery: if emerging market debt as an asset class has had such a torrid time this year, why has it not suffered more outflows?” And to answer it he quotes Paul Greer, portfolio manager at Fidelity International: “People will look at what they are getting in the rest of the world, and they’ll say you know what? We’re getting paid for the risks.” “EM bonds resilient as investors are well rewarded for risks” November 2.

That which sounds so perfectly logical, is not what the banks can do, since the risk weighted capital requirements take no consideration whatsoever of the risk premiums banks can obtain. 

To top it up, these weights are formally portfolio invariant. Since you might think that because I am obsessively against that regulation I will give a biased version of it, let me extract verbatim the following from the horse's mouth, “An Explanatory Note on the Basel II IRB (internal ratings-based) Risk Weight Functions” 

“The model [is] portfolio invariant and so the capital required for any given loan does only depend on the risk of that loan and must not depend on the portfolio it is added to.”

And the reason given for that mindboggling simplification is: “This characteristic has been deemed vital in order to make the new IRB framework applicable to a wider range of countries and institutions. Taking into account the actual portfolio composition when determining capital for each loan - as is done in more advanced credit portfolio models - would have been a too complex task for most banks and supervisors alike.”

Besides the disastrous effect in our economy the distortion in the allocation of credit, credit risk-weighted capital requirements produce, is to guarantee especially large exposures, to what’s perceived as especially safe, against especially little capital, which dooms or bank system to especially severe crises, like that in 2008.

And this has been going on during 30 years and no one is allowed to ask regulators: Why do you believe that what’s perceived as risky is more dangerous to our bank system than what’s perceived as safe?

Clearly that is seemingly one of those questions that shall not be asked.

@PerKurowski

The risk premiums for a suspect of human rights violating nation will increase, which, sadly, will also attract investors

Sir, Gillian Tett, with respect to how business should or could behave in cases of human rights violations, like that of Khashoggi, if confirmed, writes: “since western businesses are scrambling to maintain their investments there at a time of rising Sino-American tensions. “What will we do the next time that the Chinese toss dissidents in jail or clamp down on local journalists?” asks one chief executive. The answer is not clear.” “The Khashoggi case puts US businesses in a moral bind”, October 19.

How much has the risk premiums required by anyone wanting to invest in Saudi Arabia gone up after the Khashoggi incident, and after how Saudi Arabia reacted against Canada when its Foreign Affairs Minister Chrystia Freeland tweeted concerns about the news that several social activists had been arrested in Saudi Arabia? These must have increased a lot, and an initial public offering of the Saudi oil giant Aramco is rumored cancelled.

That costs of course the human rights violating nation a lot… but those higher risk premiums also attract… as we can notice when a Goldman Sachs finances a notorious human rights violating regime like Venezuela’s Maduro’s.

The answer to the chief executive’s what to do question, should have to include “what our shareholders have mandated us”. Unfortunately too many shareholders also turn a blind eye to ugly realities, when for instance a Goldman Sachs announces record returns on equity.

What do we lack? Perhaps the will of a responsible elite that is willing to shame those who behave in a disgraceful manner, in a completely apolitical way. We need a society whose members would not invite Goldman Sachs’ Lloyd Blankfein to have tea at their homes. 

Sir, I have not been able to find the reference to it on the web but, some years ago, in Swedish television, I remember having heard something about a Swedish king who said he feared more the opinions of Stockholm’s high societies ladies than Russia. 

@PerKurowski

Venezuela faces a restructuring between odious creditors and odious debtors, so it behooves us ordinary Venezuelans citizens to intervene and block any odious deals.

Sir, Jonathan Wheatley and Robin Wigglesworth when reporting on the surreal sort of restructuring of Venezuela’s debt by the equally surreal Maduro government write: “Venezuela is already a serial defaulter. It has defaulted on miners, oil companies and other enterprises whose assets it has seized without compensation. It has defaulted on unpaid suppliers to PDVSA, the national oil company. Most seriously, it has defaulted on its people, denying them access to basic foods and medicines, causing an epidemic of weight loss and turning injury or illness into a mortal danger.” “Venezuela bond repayments: dead and alive” November 28.

Sir, the creditors, if they had carried out any minimum due diligence, would have been perfectly aware their financing would not be put to any good use, so for me, all their loans, given only because of juicy risk-premiums or other profit motives, are just odious credits.

And the borrowers, knowing very well they were contracting that debt for no good purposes at all, defines all these borrowings to be odious debts.

So here we are Venezuelans citizens, with children, parents and grandparents dying for lack of food and medicines. Are we now just supposed to sit down and allow this restructuring to happen on whatever odious terms the creditors and the debtors agree on in a petit committee?

No way! As a minimum, for a starter, our General National Assembly not yet in exile needs to authorize our Supreme Court of Justice in exile, to take charge so as to at least determine what could be deemed to be bona fide, dubious, or outright odious credits.

https://teawithft.blogspot.com/search?q=odious+credit

@PerKurowski

A former Executive Director of the World Bank, for Venezuela (2002-2004)

Venezuelan creditors, what if from now on oil belongs in equal parts to the citizens and not to the government?

I refer to Jonathan Wheatley’s and Robin Wigglesworth’s “Venezuela’s Russian debt tangle heightens risk of default” June 10.

Sir, had Venezuela not have had oil, there would be no so much financing of its plain lousy governments.

Equally, had the oil in Venezuela belonged to Venezuelan private citizens and not to the government of turn, its governments would not have had access to as much credit.

Venezuela’s current constitution states: “Article 12: Mineral and hydrocarbon deposits of any nature that exist within the territory of the nation, beneath the territorial sea bed, within the exclusive economic zone and on the continental shelf, are the property of the Republic, are of public domain, and therefore inalienable and not transferable.”

What if there was a change in the constitution to: “Article 12: Mineral and hydrocarbon deposits of any nature that exist within the territory of the nation, beneath the territorial sea bed, within the exclusive economic zone and on the continental shelf, are the property in equal shares of all Venezuelan born and alive citizens, and therefore inalienable and not transferable.”

Then all the oil revenues would belong to Venezuelan citizens and be distributed to them by means of an oil revenue sharing mechanism.

Then those who current creditors of Venezuela, and who must have been perfectly aware of how lousy its government was by only looking at the risk premiums paid, would have those risk premiums to reflect the reality of the risks of lending to such lousy governments as Venezuela’s

In such circumstance could a tanker that carries oil owned by all the Venezuelan private citizens be embargoed?

Would a judge order that embargo knowing that, as a direct result of it, many Venezuelan citizens, old and young, with real names and faces, would then die because of lack of food and medicines?

http://perkurowski.blogspot.ca/2014/04/creditors-of-venezuela-read-our.html

@PerKurowski

BoE, the real economy also needs to be stress tested, for how efficiently banks are allocating credit to it.

Sir, Emma Dunkley reporting on BoE’s stress testing of banks writes: “The new “exploratory” test, which will be carried out every other year, will assess banks’ resilience to a wider range of risks beyond those emanating from the financial cycle — such as persistently low interest rates and high costs…The new assessment will include weak global growth, continuing low interest rates, falling world trade…”, “BoE set to raise the bar on resilience” March 28.

Again a stress test on how the banks might do because of the economy, but still with no regulator (or central banker) interested in stress testing how the economy might do, because of the banks.

When will a bank regulator ask whether banks are lending enough, and on sufficiently reasonable terms, to SMEs and entrepreneurs? The day he would respond that with a definite “NO!”, that day the regulator might begin to understand what damages his risk weighted capital requirements for banks cause the real economy.

My questions!

PS. Emma Dunkley also writes: “Last year, UK banks had £19bn of impairments on credit cards, compared with £12bn on mortgages.” That might be… but does no one look at the risk premiums charged in both cases?

@PerKurowski

Current “pre-existing conditions” would mean nothing when complete genomic sequences enter the health insurance world

Sir, Gillian Tett writes “most consumers have not fully considered the consequences of genetic profiling: is it a good idea, say, to discover through a genetic profile a vulnerability to Alzheimer’s? What will that mean for life insurance policies and data privacy?”, “The importance of socks in the genomic revolution” March 17.

Indeed, imagine if a full genomic sequence is obtainable at a really low price, what stops then insurance companies from offering two plans, one for those who want to present their full DNA result, and one for those who prefer to keep these confidential? What would the differences in premiums be?

In 2000, in the now extinct Daily Journal of Caracas, I wrote an Op-Ed titled “Human genetics made inhuman”. In it I tackled some of the problems to which Ms. Tett refers.

I ended that article with: “suggesting that all insurance companies design a plan which obligates them to issue policies for all of those who undertake a genetic examination. This policy should cover the negative impact and consequence that could arise from anyone getting access to such information.”

Would that suffice? Clearly not, but just the existence of such an insurance, and seeing the premiums charged, could be a smart way for us to allow the market indicate us what kind of social troubles we are getting into. This because clearly what we currently refer to the problems in health insurance with “pre-existing conditions”, would all be baby talk when compared to the societal impacts of genomic sequencing.

I worried about this in 2000, as others must have been worrying earlier, and here Gillian Tett brings it up in 2017. What has happened in this respect during that interval? Has someone somewhere been thinking on how to tackle this formidable societal challenge? Probably not! If so, why? Or is this just another question of those that should not be asked?

PS. In 2015, in a letter to FT, I asked: “What would Gillian Tett say if one of her health record entrepreneurs, by means of an innocent mistake, entered a data that for instance hindered one of her children to enter a university that had decided that the expected longevity of students was good for its funding drives?

FT, where’s the real hurdle? In PDVSA’s debt swap, or in PDVSA and Venezuela’s government?

Sir, Eric Platt and Jessica Dye write: “Analysts and bankers remain optimistic that a deal will be clinched, as a default would cut both Venezuela’s and PDVSA’s credit lines with lenders and deepen the country’s recession.” “PDVSA debt swap plan hits hurdle” October 11.

Really? Could it not be so that helping to finance one of the demonstratively most inept governments ever could only deepen and prolong a recession that, right after a huge oil boom, in a country that states it holds the largest oil reserves in the world, has its citizens starving and without access to medicines?

Venezuela is in utter disorder, and its people in utter despair, and still its government sells gas at less than US$ 4 cents a gallon, thereby allowing some to smuggle it out and make juicy profits. That, no matter how you look at it, is a de facto economic crime against humanity.

So “T Rowe Price owned $274m worth of the 2017 bonds”. Does T Rowe Price really think that its clients, though they might make huge speculative profits in the short term, are truly benefitted long term by financing an entity as mismanaged as T Rowe Price knows PDVSA is? Would T Rowe Price’s investors have liked it if Venezuelans had financed a PDUSA and thereby helped keep a hypothetical authoritarian regime in power? When is what is being financed going to be an issue? Or is it really that you can finance anything at all, as longs as the risk premiums are juicy?

Sir, to be clear, I am not writing this solely in “opposition” to the current Venezuela government. For decades, long before the Chavez years, I have been opposed to odious debts, odious credits and odious borrowings… anywhere.

PS. I am supposing no one would dare to expose such naiveté as arguing that lending to PDVSA is distinct from lending to the Venezuela government.

@PerKurowski ©

In sovereign debt should not moral and ethical issues be more important than collective and pari passu clauses?

Sir, Robin Wigglesworth discusses bond legalese, like collective and pari passu clauses, and rightly concludes “paying attention to the legal differences is [especially] important when a borrower runs into a brick wall.” “Venezuelan bond small print piques investors’ interest” June 18.

But we citizens would also appreciate that lenders gave some minimum minimorum considerations to what the funds they loaned out were going to be used for, whether the loans were being correctly and transparently contracted, and of the quality of the managers of the proceeds, the governments.

In many cases, like that of Venezuela, if creditors had done so they could easily have concluded they were giving odious credits, and that the government was contracting odious borrowings; and that they better refrain from giving the loans, no matter how juicy the risk premiums.

In a world were legislation against acts of corruption exists it is surprising how little consideration “connoisseurs” give to the moral and ethical aspects of sovereign debt. Very high interest rate risk premiums, is the currency in which the corrupter and the corrupted too often conclude their dirty dealings.

For instance, in Venezuela, though there are serious scarcities of food and medicines, the government sells petrol domestically for basically nothing; and blocks humanitarian international arguing that to allow it would infringe their sovereign right to have exclusive responsibility for the welfare of citizens. And besides the market is well aware of that there are Venezuelans imprisoned for political reasons.

In such circumstances should not lending to Venezuela qualify as odious credit? Should that not also be qualified as part of odious government borrowings?

Should not citizens have a collective clause rights with which they can authorize or not the payment of odious credits and borrowings?

What should a due diligence process for bond issues which proceeds might help finance human rights violations include?

If a corporation suspect of drug trafficking made a bond issue, who would begin by revising the clauses of its legal documentation?

@PerKurowski ©

Odious debt is often mentioned, but its origin is most often those odious credits and odious borrowings that abound

Sir, Benedict Mander, with respect to Argentina issuing debt writes: “These yields don’t exist anywhere else in the world in countries with such low levels of debt,” said [enthusiastically] Facundo Gómez Minujín, managing director at JPMorgan’s Argentina unit. “Argentina targets $30bn debt issuance” May 2.

Is that not a sign that Argentina, if it took on debt, should demand to pay less or just leave it like that?

And by the way, what has the fact that Argentina has low level of debts to do with anything? Is not debt to be contracted only if you have something really worthy to do with it, something that will allow you to repay the debt and leave some decent returns?

I do not know much about Argentina, and I do not intend any similitude, but I do know that I profoundly dislike all those who knowing how bad it was run, and how little with its huge oil revenues it should need credit, still financed the disastrous XXI Century Socialism Venezuela, only because risk premiums seemed good. Had they not done so, Venezuela could perhaps already have been able to rid itself of The Tragedy. Had they not done so, Venezuela would not, on top of all its other current mindboggling difficulties, need to add the service of totally unproductive contracted debt.

For me good governments are those who stay out of debt even if conditions seem fair, only on account that debt basically represents advance fiscal revenues, to be paid later by the next generation.

We do need a Sovereign Debt Restructuring Mechanism (SDRM) but, if it is going to produce reasonable results for the citizens, then it has to begin by defining very clearly what is odious credit and what are odious borrowings. I have sometimes argued that any public borrowing that offers to pay more than a specified number of basis points over what the best debtor is paying, could be considered as odious.

I know it is way too extreme, and has absolutely nothing to do with Argentina or Venezuela, but the question needs to be asked, so that the point I am making becomes utterly clear: Would bonds issued for the construction of the crematoria ovens in Auschwitz be included in any debt restructuring… or should these just be thrown out… or should the financiers also be judged?

@PerKurowski ©

“Government, I will lend you fresh money if you favor me with huge risk premiums” Does that not sound a bit corrupt?

Sir, Max Seddon and Laura Noonan write about the plans of Russia to issue its first sovereign bond since the US and Europe imposed sanctions on Moscow, and of some reactions of Washington to that. “Russian bond poses dilemma for bankers” February 26.

And in this respect: “The Treasury told the banks that while there was technically no ban against helping the Russian government raise money, the banks would have to be mindful of the fact that the money could be diverted into activities that were not consistent with US foreign policy.”

But what about the case of money that could be diverted into activities that was not consistent with Russian citizens’ interests? Is that irrelevant?

I ask because I am Venezuelan, and the government of my country has taken on loads of debt, something that clearly is not justifiable in the midst of an incredible oil boom. And all this odious credit/debt is now supposed to be repaid by all citizens who had absolutely nothing to do with how the loan proceeds were used, in much because of a big lack of transparent information.

And the financier’s of Venezuela have been quite aware that things in Venezuela were not fine and dandy. Among publicly notorious issues was that the government was selling oil to some countries a highly subsidized prices for its own political benefit; giving away gas to its own citizens for a value that exceeded all social spending put together; the existence of rampant corruption; and that its human right’s behavior was being questioned over an over again.

But the financiers loved the risk premiums, and so I ask:

In the case of a loan to an individual government official in return for a favor, there would be no doubt that it could be classified as an act of corruption, and the financier could be held liable in the US under the Foreign Corrupt Practices Act.

But, what about a loan that provides money to a whole government, in return of the favor of extravagant risk premiums, could that not also be classified as an act of corruption?

The world no doubt needs a Sovereign Debt Restructuring Mechanism (SDRM) but, if that is going to help the citizens of the world, which it primarily should do, that must begin by making clear the difference between bona-fide normal credits and odious credits.

@PerKurowski ©

The reason why banks “dance around tough capital rules” is that regulators play the music that invites them to do so.

Sir, I refer to Gillian Tett writing about hedge funds and banks moving into the P2P sector, “The sharing economy is a playground for Wall Street” September 25.

Ms. Tett writes: “banks used structured investment vehicles and collateralised debt… to dance around tough capital rules”.

That ignores that the reason why banks can “dance around tough capital rules” is that there are different capital rules. If for instance banks needed to hold for instance the basic Basel II capital requirement of 8 percent against all assets, there simply would be no music to dance to.

And Ms. Tett writes: “the system needs to provide more credit to the economy, in order to boost growth… If you ask bankers why they are moving into P2P lending, some will point to the high returns they hope to earn (since the average loan commands an interest rate of around 13 per cent, margins are high).”

Does Ms. Tett really believe that loans at 13 percent, in an almost zero rate environment, will help boost growth?

And Ms. Tett writes: “if you think that the main goal of finance should be to create safe, clear rules for capital flows… then the arrival of banks and hedge funds [to P2P sector]… might make you weep”

Ms. Tett still does not understand what is going on. Risk weighted capital requirements give banks the incentive of being able to leverage their equity immensely when lending to those perceived safe; and which forces the “risky” to have to pay both a bankers’ risk premium and a regulator’s risk premium. The natural result is banks will lend dangerously much to the safe and dangerously little to the risky… and that is what should make us weep.

And Ms. Tett writes: “[Banks] also took advantage of cracks in regulatory structures to create products that policymakers could not easily monitor or control (it was unclear, for instance, who was supposed to oversee mortgage derivatives).” 

What cracks? Basel II clearly spelled out that if a security was monitored by one of the few credit rating agencies, and obtained an AAA rating, then the banks could leverage 62.5 times to 1 their equity. 

And Ms. Tett writes: “unlike the pension funds which were exposed to mortgage-backed securities in 2006, for example, the banks and hedge funds understand the dangers of credit losses.”

I am not sure I would agree with that assessment. Too many banks, especially European had no understanding at all of the dangerous amounts of credit losses that could happen if the demand for mortgages to be packaged in securities, exceeded by much the capacity to rationally finance the purchase of houses.

Sir, since January 2007 I have written you around 150 letters in reference to articles by Ms. Tett; and of course copied her. Most of them have to do with explaining why credit-risk weighted capital requirements for a bank is such a flawed and dangerous concept. Even if I assume she has not read one single of those letters, she should have learned more about it after so many years.

Ms. Tett as the expert in anthropology you are: What would have happened with humans had some Basel Committee nannies given them so much incentives to stay safe in their caves and not venture out into the risky world? May I advance the possibility they would have ended up extinguished in their safe caves?

Per Kurowski

@PerKurowski

Thanks to credit risk weighted equity requirements, borrowers and banks now share the objective of fooling regulators.

Sir, Tracy Alloway refers to the transformation of unsafe loans into super-duper “safe” ones “eBonds that strip out risk would be financial alchemy at its oddest” February 7. She misses out on what I would hold to be the most important incentive for such process.

Borrowers have of course always been interested in selling themselves to the banks as having a very low credit risk, in order to negotiate lower risk premiums.

And bankers used always to be very interested in questioning the creditworthiness of borrowers, in order to obtain higher risk premiums.

And that struggle helped to allocate bank credit efficiently to the real economy.

But then came regulators with their credit-risk-weighted equity requirements for banks and changed the priorities for the banks.

Now more important for the risk adjusted return on bank equity than the negotiation of risk premiums with borrowers, is dressing up the credit operation in such a way so as to make it seem as safe as possible, so as to allow the highest possible leverage of bank equity.

In other words regulators, instead of fully exploiting the tensions between borrowers and lenders, managed to align both of these with the objective of fooling them. Not too bright doings Basel Committee!

Are those who lend to a morally bankrupt government not just as morally bankrupt themselves

Sir, FastFT reports “Venezuela bonds yields are shooting higher” September 11.

It refers to a recent article by Ricardo Haussman’s and Miguel Angel Santos’ that said: “The fact that [the government] has chosen to default on 30 m Venezuelans, rather than on Wall Street, is not a sign of its moral rectitude. It is a signal of moral bankruptcy”.

And FastFT states “Investors are clearly little concerned”… something which is quite ok with me.

Most investors in Venezuelan debt, perhaps all, have for a very long time been perfectly aware that things in Venezuela were not as they should be, but they have decided to look away, because of the high risk premiums offered. And so as I see it, they are just as moral bankrupt.

And I repeat questions I have often made: Would it be right to buy bonds to finance the building of concentration camps... if the price, the risk premium, is right? Where do you draw the line on what is morally admissive lending? Where do you draw the line on what kind of intermediation fine reputable investment banks can do before they become morally repulsive?

The way I see it, the world, at least us citizens, need good governance ratings and ethic-ratings, much more than what it needs credit ratings

If Venezuela defaults, two have tangoed, an incompetent government and highly irresponsible lenders.

Sir, I refer to John Paul Rathbone’s “Call for default underscores Venezuelan incompetence” September 8.

In it Rathbone analyses Ricardo Hausmann’s and Miguel Angel Santos’ recent “Should Venezuela default?” where they so correctly argue that Venezuela’s government, though being current on its debt service, has already de facto defaulted in so many ways on “its people”, something which signals a “moral bankruptcy”.

Venezuela’s government has clearly shown absolute incompetence, the highest disdain for Venezuela’s constitution and for instance, according to Human Right Watch, has also committed crimes against humanity. And facts like gasoline-petrol being given away at US$ 1 cent per gallon, 278 times less than the price of milk… makes all of the above as evident as can be.

But, let it us be very clear, all equally points to highly irresponsible lenders who do not care one iota, as long as the price, the risk-premiums, are right.

Rathbone reminds us that “Venezuelan bond yield on average 12.3 percentage points more than US treasury”. Let us then suppose a bond issue yielding 20% that is going to finance the building of some concentration camps. Where do you draw the line on what is morally admissive lending? Where do you draw the line on what kind of intermediation fine reputable investment banks can do before they become morally repulsive?

As I have been arguing for some time, anyone investing in a bond that (when rates are as low as the current) pay for instance 4% more than the risk free rate, should know he is buying morally questionable pre-defaulted bonds… and that he must renounce to the possibility of having the cake and eat it too, meaning aspiring to get 100% of risk premiums and 100% of principal.

As a Venezuelan citizen let me also remind all that currently the government receives directly 97 percent of all the nation’s exports and, while so, as I see it, has no right to take on any debt whatsoever.

PS. During the Venezuelan default in the 80s I asked a foreign banker “How come you lent especially much to this entity that is emblematic of all non-transparency, corruption and mismanagement in Venezuela?” His answer was: “At the end of the day it is all going to be government debt, and this entity pays the highest interest rates”. I felt like slapping his face, I wish I had!

When discussing sovereign debt restructuring, let us begin with the beguine

Sir I refer to Martin Wolf’s “Holdouts give vultures a bad name” September 3.

Without opining on the sovereign debt problems of any particular country (like in this case Argentina’s) I have often said we need more clarity in the terms we use.

For instance any sovereign debt holder who acquired the debt at moments when it paid low risk premiums, and the debtor country seemed to be going in the right direction with sustainable debt, should be classified as a bona fide sovereign creditor.

On the opposite side, any debt holder who acquired the debt at moments when it was paying high-risk premiums, because the debtor country was deemed to be going in the wrong direction, towards unsustainable debt, should be classified as a speculative sovereign creditor.

And there are no clearer frontiers between those two categories, than the implicit risk premiums at the moment of investing in that debt… for example 400 basis points over the lowest rate paid by sovereigns for similar debt.

And I believe that, if a country needs to renegotiate its debts, the speculative holders should not expect to have the cake and eat it too, meaning collecting high risk premiums and full capital. For instance, any interests collected over a certain base risk premium defined, should first be deducted from principal owed, in order to allow for some justice with respect to the bona-fide creditors.

The above is not intended as a fully thought out solution, especially when we know that many speculative debt holders could dress up their positions as bona-fide, but at least it also helps to remind us that, both among hold-outs and restructured there could be good and not so good creditors.

But I say all this because just as important, or even more important than any restructuring of sovereign debt, is to send the right signal about when these debts were originated… as so much of renegotiated sovereign debts should never have really come into existence.

I believe us citizens who suffer bad governments, can always benefit from new tools that put some dampers on their possibilities to contract debt, usually only to benefit some few, and to be paid by future generations. Where would for instance the debt-squandered-away levels be for many countries where it not for holdouts?

And so, when discussing sovereign debt restructuring mechanism, we should begin with the beguine. 

For example any debt restructuring for a sovereign debtor who is in problems for causes mostly of his own making, should include clear mechanisms which at least shows an intention of that not happening again. By the way, that is most often an integral part of any private sector debt rescheduling, for instance maximum debt levels, minimum cash reserves and so on. 

A sovereign creditor who just plays out the card of “take your hit and leave me alone” might very well merit some bad vulture holdouts, I mean for the benefit of us tax paying citizens.

PS. Beside sovereign credit risk ratings, should we not also have sovereign governability and ethic ratings?

PS. And, in all these matters, let us never forget that what might appear as a benefit to some, might very well reappear somewhere down the line as a cost to another.

Is it ethical to expect high yields, no matter what? Like on a bond issue to finance a concentration camp?

Sir, Elaine Moore writes “More than 40 people have been killed in street protests [in Venezuela] involving supporters and opponents of the government”, “Unholy EM debt trinity tempts with high yields” May 13. And any investor who has done any reasonable due diligence on Venezuela would now that is only a small part of the tip of the iceberg, as Venezuela’s constitution, not the least on public debt issues, is blatantly and continuously being violated.

And so I ask, if an investor buys the Venezuela May 2023 bond yielding 12.5%, and Venezuela later, thanks to its oil has the money to repay, should he have the right to collect on his full yield expectations, independently of what the Venezuela government might be doing to its citizens?

As far as I am concerned, as a Venezuelan, I will do whatever I can for these investors not be able to collect on their juicy risk premiums. In other words I will try my utmost, to make their risk perceptions come true… and then some.

Has this issue not much more to do with ethics than with portfolio returns? I am of course by no means implying it is the same… but, what if in similar low interest rate environment, there had been a 10 year bond issue offering a 12.5% return in order to finance the construction of an Auschwitz type concentration camp… to be repaid with whatever could be confiscated and extracted from its victims?

Should all we citizens around the world not hold investors, and especially those investments banks who arrange the primary issues, to some higher ethical standards for our own mutual good?

Do we not really need ethic ratings more than credit ratings? 

Are car loans with adequate risk premiums to "risky" citizens really riskier than loans to “infallible” sovereigns?

Sir Gillian Tett, jogging our memory with the problems of mortgages linked to subprime borrowers, expresses concern for that subprime, even so called “deep subprime” car loans have been growing too much lately, “American subprime lending is back on the road” April 11. Poor her, she need not to worry, these loans are completely different from those loans that were so badly awarded because they could be dressed up in AAA clothing.

But she is indeed right when stating that “cheap money has a nasty habit of creating distortions in unexpected places”. Just look at all those of her colleagues who now suggest government should take advantage of extraordinarily low costs of finance in order to do so much more. That ignores that the cost of those currently so low interest rates, in much a direct result of the fact that banks do not need to hold much capital against loans to the “infallible” sovereigns, will most likely be paid by the lenders in the future, by one or another sort of financial repression.

Confusion not only still lurks, it’s getting bigger!

Sir, LEX in “Who knows what evil lurch” March 25, refers to Andrew Haldane, the Bank of England’s executive director for financial stability arguing “The shift form Basel I to Basel II bank capital standards increased the calculations behind tier one capital ratios from six to 200m” and that “this greater complexity failed to prevent an epochal credit crisis.”

Mr. Haldane, it not only failed to prevent the crisis, it caused it. The risk-weights based on perceived risk of default applied under the table to a market that already cleared for perceived risk of default over the table applying their risk premiums shook the Ground Zero of financial markets and created the mother of all confusions.

The premiums applied by the market in order to make the lending or investment alternative equivalent from a perceived risk of default point of view, were then made unequal when regulators ordered different capital requirements for the lending or investments based on the same perceived risk of default. This double counting translated into that the expected return for banks of doing operations with what is officially perceived as risk-free (sovereigns and triple-As) catapulted when compared to the expected returns from what was officially perceived as risky (small businesses and entrepreneurs). As a result our banks have drowned, or find themselves trampling desperately in triple-A waters and public debt.

And then some have the gall to call this massive regulatory failure, a market failure! And Basel III is not correcting for it, and in many ways making it worse. I have been arguing this for years but unfortunately I cannot find the words gentle enough to get through to the regulators… I hope FT and LEX will.