One might need rats to smell out the rat in bank regulations.

Sir, Tim Harford refers to a paper published by Ben Vermaercke of the University of Leuven and four colleagues titled “More complex brains are not always better”, which “showed that rats were better than humans at distinguishing certain kinds of striped patterns from others”, “Trading places – with a rat” November 1.

So would Vermaercke and colleagues think that rats could be better than bankers at clearing that Basel Committee fog made up by credit-risk-weighted equity requirements for banks and which makes it so hard to navigate the financial valleys? 

If they were to ask trader-rats trainer Michael Marcovici, he might say no. That because his training method requires financial data to be converted into piano music, and the distortions of such bank regulations might cause just a bit too much dissonance.

But, then again, who knows, perhaps one might need rats to smell out the rat in bank regulations.

Excessive risk allergy is much more dangerous for the society than the risk addiction of some bank trader gamblers

Risk-taking is not something easy to comprehend. A serious family man can make a million one quid bets on flipping a coin and nothing happens, though if he makes a single one million quid flipping a coin bet, and it goes wrong, all hell breaks loose. But, is the society better served by one million family men making a million one quid bets on flipping a coin, than by one who is capable of gambling one million quid on one single flip of a coin? Who is to tell? 

Sir, Lucy Kellaway in “The risk addicts” February 2, quotes a repentant trader gambler being in favor of zero tolerance with respect to recreational gambling in the City. I just don’t know if that is so. With a policy like that, would one not risk eliminating part of the biodiversity of a financial center that makes it thrive? I believe I would favor the imposition of more effective gambling limits instead. 

And by Lucy Kellaway placing “risk-taking” in the perspective of our banks, as many do these days, she is further feeding the false notion that the current bank crisis was the result of excessive risk taking. Let me say it loud and clear, much more dangerous for banks than overconfident addicted gambler traders, are bank regulators with a “superiority complex” who think themselves able to expulse risks from banks in a safe way. 

The Basel Committee bank regulators, thinking they were very smart, allowed the banks to hold much less capital to what was perceived as “absolutely safe” than for what was considered “risky”. And with that they gave the banks the incentives to bet excessively on what was, ex ante, perceived as “absolutely safe”, precisely what has caused all other bank crises in history. Their risk allergy did not cost billions, it cost us trillions, and that without including the opportunity costs for the society of its banks betting less and less on “The Risky”, like the small businesses and entrepreneurs. 

I firmly believe that the last thing a society can afford to do is to undervalue the worth of its willingness to take risks. The Western World was build upon risk-taking, and a lot of it plain crazy risk-taking… and which is why in our churches we can hear psalms begging “God make us daring!”

Just pay for what you want and you have a slightly better chance of getting it.

Sir John Coates makes quite a disservice by giving a way too simplistic version on the problems with rewarding the much needed risk-taking in “Time to tackle this culture of rewarding the risk-takers” May 5. He sets us up to choose between the hare and the tortoise forgetting completely that the hare can produce tortoise results and vice versa. Those tortoises that have only been able to produce the $20 million in profits the first 4 years can be those giving us the $500 loss in the fifth year.

There is really nothing like a perfect incentive plan though for an investor who is looking for a five year return he should clearly be better off paying an incentive based on the five years results as easy as that. Diversity is also good... if the whole world starts looking for five year results that will be just as bad as the current one year structures... you see humans, and especially traders, they do adapt.

Which bring us to the most important part of all... knowing what the incentives are. Coates refers to the traders but perhaps more important yet is to refer to the trader’s bosses.