When the going gets tough give the tough a chance!

Sir John Plender wrote “Fragile State of banks means recovery is still precarious” June 30 and few would debate him on that. Where he is wrong though is saying “that there is precious little left in the policymakers’ locker”.

At this moment what is most required, as a public regulatory policy, is to immediately reduce the capital requirements for banks on all those operations that just because they were deemed as more risky by the credit rating agencies, had to be backed up with higher capital requirements.

If we do not do that, we run the risks that while the banks are rebuilding the capital lost in AAA-land, they will crowd out completely those tough we so much need to get going now when the going is tough… and that would really be the end.

Current financial regulations discriminate against small businesses and entrepreneurs.

Sir, compared to a traditional regulatory system that set equal bank capital requirements for all type of assets, the current one which imposes different requirements based on some arbitrary risk-weights related to credit ratings, implies that a small business needs to pay about 2 percent (200 basis points) more in interest rates in order to stay competitive when accessing bank credit. Let me explain.

Suppose a bank feels that the normal risk premiums should be .5 percent for an AAA rated company and 4 percent for a small business. If the bank was required to have 8 percent for both assets and could therefore leverage itself 12.5 to 1 then the expected before credit loss margin on bank equity for the AAAs would be 6.25% and for the small business 50%, a difference of 43.75%.

But, since the bank is allowed by regulators to hold only 1.6 percent against AAA rated assets, which implies permitting a leverage of 62.5 to 1, the previous margin for these assets is now 31.25%, which implies a difference in margins on equity of only 18.75% when compared to that generated by the small business.

In order to restore the initial required competitive margin difference of 43.75, now only 18.75% the small businesses will have to generate for the banks an additional gross margin of 25 percent and which, divided by the 12.5 to 1 leverage allowed for their class of assets, comes out to be the additional 2 percent in interest rates I referred to.

Of course a complete analysis would require considering many other dynamic factors, but those would only help to fog the basic truth that our regulators are discriminating against those the banks are most supposed to serve.

What will it take for Financial Times to understand that this is no minor problem, especially when so much of any job recovery lies in the hands of small businesses and entrepreneurs?

What will it take for Financial Times to understand that the regulatory discrimination in favor of the AAAs caused the current financial crisis?

Please just one single capital requirement!

Sir you are absolutely right in that “Shock therapy is best cure for banks”, June 29, except for when ask for new “capital requirements” when what we most need is to a return to just one single capital requirement which would stop the regulatory arbitrage among different assets.

If you have not yet been able to figure out arbitrarily low capital requirements in favor of anything that can dress up in a good credit rating, is not the main cause for the banks being pushed into having an excessive exposure to anything dressed up in a good rating, I cannot but help you are indeed a bit dense… just like the regulators.

From a bank regulatory perspective, subprime and Greek debt were identical and perfect twins.

Sir Eric Posner in “Greek debt troubles reveal parallels with subprime crisis” June 29 fails to mention the most striking parallel, namely that both the securities collateralized with subprime mortgages and Greek debt, when held by banks, required these to hold only 1.6 percent in equity, in other worlds they were authorized to have a 62.5 to 1 leverage.

A bank, if it was making 50 basis points spread on Greek debt, then it was making 32 percent return a year, courtesy of the regulators… not bad eh?

How do you lobby the Basel Committee?

Sir in “The US arms its financial regulators” June 28 you write “The consensus emerging from the Basel III negotiations shows that bankers have rediscovered some of their old clout”. I suppose that with bankers you re refer primarily to the too-big-to-fail group of banks, as we have seen very little coming out that could be helpful for all the other small-enough-to-fail banks.

That raises of course the very interesting question of how one gets around lobbying the Basel Committee.

Are the regulators pulling our legs?

Sir Tom Braithwaite reporting that “US banks face more sweeping overhaul” June 27 writes about setting “aside more capital against their riskier… operations”. Or he has misunderstood it or the regulators have to be pulling our legs.

As this crisis resulted in its entirety from assets that having been deemed safe, because the credit rating agencies said so, were allowed to be financed by the banks against extremely low capital requirements, what we obviously need is higher capital requirements on any operations perceived as not risky.

To place additional capital requirements on operations that are perceived as risky and for which therefore there is already a traditional lack of capital and will to finance, has no logic. Not only did those riskier operations have nothing to do with originating the crisis but they might quite probably also represent our best ticket out of this crisis.

There’s got to be something very wrong with us.

Sir, I don’t get it! That we know that England lost during in the World Cup 1-4 to Germany is one thing, but that it will be registered in history as a 1 to 4 loss when we all know it to be 2-4 that I cannot understand. There’s got to be something very wrong with us.

Financial Times would you mind?

Sir would you mind much if I explained to FT’s sophisticated readers why it is not so much whether the capital requirements for banks are high or low that matters, but more so the way they discriminate among assets based on default risk-weights?

Let us suppose that banks, with no special regulations, would be willing to lend at .5% over their own cost of funds to those who are rated triple-A, and with a 4% spread to more risky small businesses.

If the banks were obliged to hold 8 percent against any asset, which means they can have a leverage of 12.5 to 1 (100/8) then their net results on capital, before credit losses, when lending to the AAAs would be 6.25% (.5x12.5); and 50% (4x12.5) when lending to the small businesses. With such a difference the banks would do their utmost trying to lend well to the small businesses… as there are clearly no major bonuses to be derived from lending to the AAAs.

But when the regulators allow, as they do, the bank to hold only 1.6 percent in capital when lending to AAA rated clients, which implies a leverage of 62.5 to one (100/1.6), then the expected net result on capital for the banks when lending to AAAs, before credit losses, becomes a whopping 31.25% (.5x62.5).

And of course, a bank, and bankers, being able to make 31.25% before credit losses when lending to no risk-AAAs, would be crazy going after the much more difficult 50% margin before credit losses available when lending to the riskier small businesses and entrepreneurs.

And this is how the risk-adverse regulators pushed our banks into the so dangerous “risk-free-AAA-land” while blithely ignoring that no bank or financial failure has ever occurred because of something perceived as risky, they were all the result from something perceived as not risky; and while ignoring that what we most want out of our banks is precisely that they be good in nurturing with credit those small businesses that might grow up to be the AAAs of tomorrow.

And this is really why we find ourselves in a crisis of monumental proportions, never ever before had our regulators dared to be so publicly wimpy so as to ask the banks to so excessively embrace what was, ex-ante, perceived as having no risk.

By the way, who gave the regulators the right to discriminate solely based on perceived default risks? The small businesses, in order to have a chance to access credit, are as a direct consequence of these capital requirements forced by the regulators to pay much more for their loans... as simple as that! Do not forget that whatever little capital the banks currently have, it is mostly because of those perceived as being risky.

Financial Times, please help… save the world from our financial regulators´ regulatory exuberance!

There has never ever been a major or systemic bank crisis that has resulted from the banks being involved with what ex-ante was perceived as risky; they all resulted from lending and investing in what ex-ante was considered as not risky, given the returns offered.


But then came the Basel Committee regulators and, to top it up, lowered the capital requirements for what ex-ante is perceived by the credit rating agencies as having lower risks, which of course increased the banks’ expected ex-ante returns from pursuing these “low risk” opportunities.

And now, when two years after an explosion that resulted from so many banks following the minuscule capital requirements when investing in securities collateralized with subprime mortgages; and there is a bank explosion awaiting round the corner because of bank lending to well rated fancy sovereigns, like Greece, with almost no capital requirements at all; they keep on applying the same regulatory paradigm of risk-weighted assets, we can only deduct that our financial regulators simply do not get it, not even ex-post.

Please, FT, help save the world from our financial regulators´ regulatory exuberance!

In reality Oliver Stone is Mr. Conformist.

Sir in “When Hugo met Oliver”, June 19, Matthew Garrahan refers to Oliver Stone as a non-conformist. Since “conformism” is a term used to describe the suspension of an individual's self-determined actions or opinions in favour of obedience to the mandates or conventions of one's peer-group that is plainly laughable. Oliver Stone, with respect to the beliefs extolled in his particular mutual admiration club, is as conformist as anyone could be.

If I had the chance I would warmly suggest Mr. Stone to read Arthur Koestler’s “Darkness at noon”, as it could be an eye-opener for him. But, then again why would he want an eye-opener when the living on the fast moving and trendy oil blessed left jet set is so enjoyable and profitable?

Yes, we should all have a say in how banks are reformed

John Kay is absolutely right in that “We should all have a say in how banks are reformed” June 16.

Human and economic development includes an incredible number of different risks of different nature and most perhaps not even known to us, just look at BP. Therefore I have for more than a decade protested those regulators who decided to impose capital requirements by discriminating with their arbitrary risk weights based exclusively on the risk of default, a risk that could only be of such a concern to extremely wimpy regulators.

Indeed, that a creditor defaults is about the most natural thing in the world, and the only way it becomes worrisome is if there is a systemic and massive number of defaults; and which is precisely what the regulators finally caused when with their capital requirement they started a mad chase in search of triple-A ratings, and the market found some Potemkin ones.

Also the sole fact that it can go through a regulators head to discriminate in such a way as to assigning zero capital requirements when a bank lends to a AAA rated sovereign but require 8 percent when it lends to its most natural clients namely the small businesses and entrepreneurs, is maddening. If asked I would even prefer it to be exactly the other way round, though I would happily settle for no discrimination at all, as that is what the least confuses the markets.

There are many ways of tightening and easing... and some are better than other

Sir Martin Wolf rightly insists in warning on “Why plans for early fiscal tightening carry global risk” June 16, but he would further his cause focusing more on the needed quality of the fiscal spending. It is not fiscal deficits I am afraid of; it is fiscal useless waste that makes me and many really nervous.

For instance when regulators can allow the banks to lend to sovereigns with zero or minimal capital requirements why can’t they temporarily decrease the capital requirements for the banks when lending to the small businesses and entrepreneurs, those who had nothing to do with creating the mess, those who can perhaps most help us to get out of it. That to me seems a more efficient way of stimulating the economy than having bureaucrats decide on what to spend.

Lower the capital requirements for banks!

Martin Wolf is absolutely right in warning us that “Fear of the markets must not blind us to deflation’s danger” June 9, but I do not understand on what grounds he believes that government can spend and ease us out of our immense problems. What we have seen until now seems surely to have set us up for something worse and one of the reasons for it is exactly that the “wicked” investors have not “suffered punishment” but been bailed-out.

If we are going to stimulate again this time that stimulus has to be carried out by the private sector. How? As I have proposed for soon two years, by lowering substantially the current capital requirements of banks when lending to small businesses and entrepreneurs. It was the ridiculous low capital requirements to any fancy sovereign and triple-A rated operation that got us into this horrendous mess… what wrong can it be to temporarily allow for lower capital requirements when banks lend to those who stand the best chance to get us out of the mess.

Right now if a bank lends to US-UK-Germany-France government it needs no capital at all and with the proceeds the bureaucrats of those nations can decide what to stimulate and who to finance. Is it no better having the banks decide which General Motors or grocers on the corner should get finance?

Yes we have reasons to distrust the banks, though far from as many some agendas want us to believe, but that does not imply that suddenly governments, magically, are better. I at least trust them less than what I trust banks. In any case if we got to keep on rowing close to the waterfalls of inflation and deflation let us at least make sure we all row in the same direction… hopefully away from them.

The odious and arbitrary regulatory discrimination of risks must stop… now!

Sir Jeffrey Sachs in “It is time to plan for the post-Keynesian era” June 8, in his list of proposals, ignores the fundamental change that must occur in our financial regulations.

It just cannot be that our regulators allow banks to lend to fancy AAA rated sovereigns with zero capital requirements, or to sovereigns rated like Greece the last five years with only 1.6 percent of capital, while requiring the banks to hold 8 percent in capital when lending to the small businesses and entrepreneurs.

That odious and arbitrary regulatory discrimination must end now; the coward market discriminates more than enough when pricing for risks; and our financial regulators should immediately be removed as they seem absolutely incapable to understand that there are other risks in life than “the risk of default”.

Societies and human development thrives on risk taking and not on risk-avoidance.

Sir finally, at long last, you have reached the conclusion that we need to “end the pseudo official status of a select group of CRA’s elevated by law and accounting rules into arbiter’s of our banking systems’ risk management”, Rating Credit June 4. Good for you!

Having said that though, you arrive at this conclusion mostly because you feel that the credit rating agencies cannot really perform their rating job correctly, and which is why you find it hard “to do away with risk-weighting altogether” and with that you do your utmost to hang on to some kind of myth of safety.

Sadly, the real life hard truth is that there is absolutely nothing that justifies that a credit, deemed as having less risk to default, should be favored more than it already is by the market. Actually, since the nature of capital nature is and has always been very risk-averse, one could more easily build a case to the contrary since societies and human development thrives on risk taking and not risk-avoidance.

It is only by following the capital requirements for banks and the Potemkin ratings that you can understand our current predicament.

Sir Nouriel Roubini and Arnab Das evidence with their “Solutions for a crisis in its sovereign stage” June 1, that though experts, they are not sufficiently aware of what has really been going on in the area of sovereign finance.

I say this because in the area for “radical reform of finance” though they mention correctly the problem with the too large institutions, they fail completely to make reference to the much larger problem of how the financial regulators, in a non-transparent way and behind the backs of us citizens, are arbitrarily subsidizing sovereign finance by requiring the banks to hold lower capital requirements when lending to governments than when lending to their natural clients the small businesses and entrepreneurs.

Back in 2004 in the Financial Times I wrote: “We wonder how many Basel propositions it will take before they start realizing the damage they are doing by favoring so much bank lending to the public sector... banks are up to the hilt in public credits.”

In this respect one of the most important information the Financial Times could provide its readers is the following table:

It is only be reading this table that you get to understand why there was a stampede after AAA rated private securities, even when these came with Potemkin ratings, and why there was so much lending to sovereigns… for instance to Greece which because of its ratings over between mid 2000 and December 2009 required the banks only to hold a paltry 1.6 percent.

Very soon the vultures will descend on some European sovereign bond markets

Sir Gillian Tett writes about future haircuts on Greek and other sovereign debt that “will continue to poison the bond markets, “Bondholders jittery over who will bear Greek losses” May 28.

Yes, there will surely be a lot more of it in line but let me assure her that already many bondholders are de-facto taking their share of hair cutting by way of the markets, as interest rates for these borrowers is shooting up, and, if nothing is done, sooner or later the vultures, those who have been preying on other lesser markets might descend in full force on Europe.

There is little anyone can actually do against a market that has discovered something as being unsustainable, and so the decision the European governments have to make now is more about who they wish to encounter on the other side of the negotiation table... the traditional bondholders or the vultures?

When is real Armageddon more likely to occur, when we are impacted or when we discover that we are going to be impacted?

It was the financial regulator who upset the delicate balance between grasshoppers and ants.

Sir Martin Wolf ends “The grasshoppers and the ants – a contemporary fable” May 26, as all fables should end, namely with a moral, in this case being “If you want to accumulate enduring wealth, do not lend to grasshoppers”. Now since that moral cannot in any way classify as a new moral, the question that begs an answer is how come it was so utterly ignored. Let me explain why.

Our financial regulators, fed up with so many bank failures, got together in something they named the Basel Committee and there, in an incestuous petit committee, decided that it did not any longer really matter whether the banks were lending to grasshoppers or ants, as long as they were lending to those who were most certain to repay. And, in order to make sure that their new regulations were duly carried out they empowered some few human fallible credit rating agencies to decide who were most likely to repay… and created monstrously huge incentives for the banks, in terms of ridiculously low capital requirements, to lend to those deemed absolutely safe by the risk-commissars.

And the risk-commissars, grateful for the opportunity to perform a very profitable service, set out by rating their masters, the most reputable sovereigns, as having no risks… crowning them with their AAAs. And then all sort of crazy things started to happen and which brought total confusion to the markets.

The banks began leveraging up lending to sovereigns and other “risk-free” client, and though this should have resulted in the credit ratings of the banks being cut, the risk commissars measured the willingness of sovereigns to assist the banks if need be, and deeming it to be good kept the ratings of the banks; which then could further lend to super-safe-grasshoppers and super-safe-ants alike. But, unfortunately, since there is a natural scarcity of super-safes, as a good regulator should have known, and there was such an extraordinarily demand for these, the market, being what it is, began supplying some fake subprime super-safes... until the forgery was discovered, much too late.

But, meanwhile, since the lending to all of the small ants, those who in their beginnings of course pose higher risk of default were kept under the thumb of much more conservative capital requirements, it also upset the very delicate world balance between grasshoppers and ants, ending in the current disaster of having too many grasshoppers per ant.

Are capital and liquidity rules for the banks out of the domain of the US Congress?

Sir in “Tsunami of regulation batters banks”, May 21, Brooke Masters reports “The Basel Committee on Banking Supervision is aiming to adopt new capital and liquidity rules by the end of the year.”

Given that the current capital rules, which unjustifiably favors the good credit risk ratings already favored by the markets, created the stampede after triple-A rated securities that detonated the current financial crisis, this must surely be one of the most important part of the financial regulatory reform.

Can then anyone explain to me why the Basel Committee is not mentioned even once in the 1336 pages long reform bill presented to the US Senate or in the 1776 pages long H.R. 4173 financial regulatory Act approved by the House of Representatives?

More than about who sets the basic capital requirements for banks a sensible regulatory reform needs to worry about who sets the risk-weights.

Sir Howard Davies and David Green are correct suggesting that the setting of the capital requirements for banks should be placed in the hands of the monetary policy committee or whoever else sets the interest rate policy, as they are tools for a similar purpose, “Final touches for sensible regulatory reform” May 20. Currently that basic capital requirement decision is not even in the UK, having been delegated to the Basel Committee and which, for no special reason at all, seems to have carved out in stone an unmovable 8 percent.

But Davies and Green, much more than about the basic capital requirements, should worry about who takes the decisions on the risk-weights. It is those weights which really explain why, from mid 2000 until December 2009, the banks could lend to Greece with only 1.6 percent capital, while if they lent to any unrated UK entrepreneur they needed 8 percent in equity. This was because the Basel Committee, in Basel II, with precious little and quite dubious explanation, assigned a 20 percent risk weight for sovereigns rated A+ to A and corporate rated AAA to AA, while giving a 100 percent risk weight to any unrated clients. This arbitrary risk discrimination imposed on top of how the market already discriminates based on risk is the fundamental cause of this crisis, as it among others caused the stampede after triple-A rated investments.

http://teawithft.blogspot.com/2004/08/towards-counter-cyclical-basel.html

Where did the regulators get their risk weights from?

Sir John Kay extends “A royal invitation to raise the debate on finance” May 19. Knowing that the value of those commissions lies primarily in how the questions are phrased, since quite often the questions are too general or too many, which tends to obscure the answers, let me suggest one single line of question.

Current capital requirements for banks were established at 8 percent, adjusted for risk-weights. A loan to a small business is risk-weighted at 100%, and the bank needs to hold 8 percent in capital when lending to it. But since a loan to a corporation rated AAA, or to a country like Greece, which until quite recently was rated A, would be risk-weighted at 20% and so then only 1.6 percent in capital would suffice when lending.

So ask the commission… where did the regulators get those 100% or 20% risk-weights from?

We know that the Basel Committee has published for example “An Explanatory Note on the Basel II IRB Risk Weight Functions” but reading the paper only reinforces the urgent need of introducing outsiders to this close circle of regulatory insiders, who are now circling their wagons defending themselves, so successfully that they are allowed to dig us even deeper in the hole they placed us in.

The Explanatory Note, prepared in July 2005, states that the risk-weights were developed with a “confidence level of 99.9%, meaning a bank is expected to suffer losses that their capital on average once in a thousand years” How come that confidence level did not last for two years? Who authorized that confidence level? I for one know perfectly well that, if the world would regulate their banks under the assumption that they would fail only once every thousand years… it might as well be dead and buried.

PS. What’s more reproachable? A young girl believing a palm reader’s prediction in a county fair; or grownups believing the self-selected Basel Committee fortune tellers when, for bank capital/equity requirements, they give us their weights of the risks for our bank systems?

PS. In America there’s an American Federation of Astrologers, ready to certify if you’re qualified to predict the future. But no American Federation of Bank Regulators, ready to certify if you’re qualified to set risk weighted bank capital/equity requirements.

It is low capital requirements that generate the type of yield of which great bonuses are made of

Sir Tony Jackson writes that the reason why “banks are up to their eyebrows in dodgy sovereign debt” is they have “fasten to instruments with investment-grade rating and junk-grade yields”, “Politics remains the biggest barrier to bank regulations” May 17. At this point of the crisis it is astonishing how wrong Jackson can be. Where has he been?

These sovereign debts did not pay junk-grade yields they paid relative low rates but these rates were made especially attractive for the banks because these were required to hold very low capital requirements against them.

For example a bank holding debt of Greece, between mid 2000 and December 2009, needed only to have 1.6 percent in capital… which allowed it a 62.5 to one leverage. Take any small margin and multiply it 62.5 times and you will get the type of yields of which great bonuses are made of.

It is not politics but the Basel Committee, who remains the biggest barrier to rational bank regulation.

We need to decrease the credibility asymmetry that exists in the credit information market

Sir I refer to The Lex Column writing about the religion credit rating agencies bring to the markets, with their implied aura of infallibility May 15.

One of the problems with credit ratings is that they are never sufficiently publicly debated, unless when it is too late, and when that happens then it is mostly the case of a small questioner against the mother of all father authorities in the markets.

Too often have I heard bankers ask me “Per, how on earth do you think I could convince my colleagues on the Board that the credit rating agencies were getting it so extraordinarily wrong that we should exit from what seemed to be an extraordinarily good business for us?”

In our efforts to solve the asymmetry in information we have increased the asymmetry of the credibility with respect to financial information, making it now almost impossible for divergent opinions to nudge the markets on the margin, and being only considered when the causes for the divergence become much too apparent, which is of course then much too late.

The first thing that should happen is that the credit rating agencies should be required to post, real time, all the questions and answers received with respect to every particular ratings, so to allow the market to express their viewpoints and to allow configure the necessary opinion majorities that could force the credit rating agencies to revise what they are doing.

If that Bank Director friend of mine could have referred to a public online forum where those same suspicions were uttered by others, then he would stand a much better chance of being heard.

But the regulatory geeks never passed calculus!

Sir Gillian Tett in “Risks posed by get-rich geeks are not just a flash in the pan” May 14 is right on the dot when she writes that “it all seemed so mind-numbingly geeky and dull to ordinary mortals and very few journalists, politicians, or even regulators, had much interest asking the right questions”

In 2003, at the World Bank, in a brief speech I gave to some assembled risk-manager-regulators I told them “…we can already begin to see how Basel II is forcing bank regulators to make a real professional quantum leap. As I see it, you will have a lot of homework in the next years, brushing up on your calculus—almost a career change.”

Clearly they did not pass calculus, but nor should they have had to, because if regulations are not comprehended by the weakest of the team, they are just too complicated. My problem in my relation on the subject of the very subprime financial regulations with the journalists of the Financial Times is exactly that, because very few of them, if anyone, has found the necessary calm and tranquility to sit down and read Basel II, so as to even begin to understand what absurd paradigm the regulatory geeks want us to follow.

The conventionals scorched the earth but still reign!

Sir again Martin Wolf in “The economic legacy of Mr Brown” May 14 refers to a “light touch” [financial] regulatory regime. I object, never before has there been such a heavy handed intervention as when the regulators created huge incentives, by means of ridiculous low capital requirements, to lend to anything related to a triple-A, and in effect subsidizing risk adverseness to such an extent that markets followed fake-triple-As into disaster.

Also Martin Wolf repeats several times the correct assessment that one of Mr. Brown’s faults was to follow too much the conventional wisdom. Not only do I find it difficult to put what happened in relation to any “wisdom” but I also believe it would have been more elegant for Wolf to acknowledge that, from his own high pedestal in the Financial Times, he himself has been an important feeder of those conventions.

The worst though is that, with or without Mr Brown, the conventionals still reign... suffices to see how the Financial Stability Board is digging us even deeper in the hole.

Mr. Padoa-Schioppa, you helped to pick out "the intelligent", so now you better live with them

Sir it is somewhat hard to comment Tommaso Padoa-Schioppa’s “The euro remains on the right side of history” May 14, because it includes so much of that glorious babble that I produce when I have had a glass of wine too many. That said let me remind Padoa-Schioppa that when he describes those enemies who besiege his euro and refers to “targets selected by the intelligence of three credit rating agencies” he should do well remembering that he himself was among those empowering these credit rating agencies and innocently believing them to be so intelligent that you could structure your whole financial regulations around them.

I am also left with a lingering doubt, is he suggesting that the omnipotent nations-state of Europe should be replaced by an even more omnipotent union. Mind you I am all for EU, as long as it is subservient to the citizens… since deal-making Maastricht bureaucrats can be just as obnoxious as deal-making Westphalia kings.

The Champions of the Basel Committee

Sir there is not one regulator capable to stand up and with a straight face look us into our eyes and tell us why a Sovereign rated A to A+, like Greece was from mid 2000 to late 2009, were risk-weighted 20% which allowed banks to lend it with a capital requirement of only 1.6 percent in equity meaning being able to leverage 62.5 to 1, while the small business in our neighborhood was risk-weighted 100%, meaning for banks, 8 percent in equity and 12.5 to 1 in leverage.

But luckily for those regulators, they will never be asked those questions, as long as they can count on Champions like Martin Wolf, Paul de Grauwe, and so many others, insisting on blaming just the private financial sector, “Governments up the stakes in their fight with markets”, May 12. How long will it take to hear a proposal to define all European sovereigns as de-jure rated AAA, so that they can be risk-weighted at zero percent, so that banks do not require any capital at all when lending to them, so that their leverage can be infinite?

They´re just plain dumb

Sir Arvind Subramanian is absolutely right when in “Greek deal lets banks profit from immoral hazards” May 7, states the case that there has to be a debt restructuring that includes a lot of hair-cutting to turn Greece´s economy into something reasonably viable, something reasonably livable.

But then he goes into a lot of convolutions trying to explain why the parties in charge do not understand it, but leaves out the most simple and the most normal human possibility, that of them being plain dumb.

I mean anyone who has allowed banks to stock up on Greek and alike debt by authorizing them a 62.5 times to one leverage can´t be anything but plain dumb… and we the dumber allowing them to do so.

The best is to name every single investor as super-duper sophisticated.

Sir Gillian Tett in suggest a new intermediate level of financial sophistication, college level perhaps, to handle the protection of those investors who might find themselves in the no man land of in between, “Sophisticated investor debate takes on a new dimension” May 7. I do not agree one category suffices the “super duper sophisticated”. Give each investor notice they have been considered to belong to this category and let the investors take it from there in the knowledge that when push comes to shove they are on their own.

And in the debate about bankers´ fiduciary duty the best way is for them to declare, in each operation, on behalf of whom they act, whether the buyer, the vendor or just themselves, which is also in their right, and then hold them strictly to that. What is worse is misrepresentation or lack of representation.

We had a monstrously dumb and stupid, government failure

Sir, Samuel Brittan in “A credo for a revived capitalism” May 7 reminds us that we need to discuss more about “government failure”. He is absolutely right.

In October 2004, as an Executive Director of the World Bank, I who am not an investment banker, nor a financial regulator, presented at the Board a written statement were I opined: “We believe that much of the world’s financial markets are currently being dangerously overstretched through an exaggerated reliance on intrinsically weak financial models that are based on very short series of statistical evidence and very doubtful volatility assumptions.”

And long before that and during my whole term as an ED I repeated, as much as I could, bordering on annoying, that the ratings issued by the credit agencies were just a new breed of systemic error to be propagated at modern speeds… and that we should not follow the money but follow the triple-As.

The real question now is what keeps the world from listening when the innocent child screams out “the emperor is naked”?

Look at the European governments, accepting the dictates of the Basel Committee and allowing their banks a 62.5 to one leverage when stocking up on Greek debts and alike… if that is just not a monstrously dumb and stupid government failure, what is?

They hold too many Greek bonds, courtesy of the communists in the Basel Committee

Sir Gillian Tett, in “Grim echoes of Wall Street crisis as investors face mental Rubicon” May 6, asks “How many Greek bonds do German banks hold? The simple answer is too many! It could not be any other way with regulators who have allowed banks to leverage their capital 62.5 times to one in the case of bonds rated like those of Greece, and only 12.5 times to one when lending to small businesses and entrepreneurs.

Don’t you get it? For all practical purposes these regulators in Basel are nothing but disguised communists.

Respectfully, may I express a doubt?

Sir in your “The case for change” May 4 you write that the Financial Times stands for a “liberal agenda: a small state...” May I respectfully doubt it?

No one that stands for a small state can agree that if his deposit in the local bank is loaned out by the bank to a small business the banks needs to hold eight percent in capital, but if his bank lends instead that money to the government it needs to hold no capital at all.

About this I have written you many letters during many years but you keep on ignoring the issue.

Basel Committee, why don´t you just shut up!

Sir who do these Basel Committee regulators really think they are bullying us around with an arrogant “the banks should be sensible and realise that it might backfire if they protest too much”? as reported by Brooke Masters, May 4.

They themselves are the ones who thought everything would be fine and dandy if they just had some few credit rating agencies determine default risks and then gave the banks great incentives, by means of different capital requirements, to follow those credit risk opinions. They themselves are the ones who believing in the abundance of safe triple-A rated lending and investments, caused the world to stampede and fall over the subprime mortgages. They themselves should shut up, because rarely has the world seen such a gullible naive and outright stupid bunch of regulators.

Now the banks, in the midst of a crisis, need to build up the equity they do not have precisely because the Basel Committee did not require them to have; precisely when we the most the banks to lend. The regulators, instead of bullying banks, should busy themselves day and night finding ways for severely capital stretched banks to be able to lend to those small businesses and entrepreneurs who have had to pay the cost of higher capital requirements but who had absolutely nothing to do in generating this crisis.

And just in case, for the record, I am no banker, only a citizen, very upset with the fact that in the 347 pages of the regulations known as Basel II, there is not one single word that describes the purpose of those regulations. Basel Committee why do you not start defining a purpose for what you are doing? Is that too much to ask?

Europe, please, do not risk the EU to save the Euro!

Sir you are aware that I have been thinking that a Greek (and some other) defaults is the most logical way out of an unsustainable illogical situation, and so of course I agree with what Wolfgang Münchau on that “Europe’s choice is to integrate or disintegrate” May 3, though much more than he knows.

You see for me I am not so worried about the Eurozone but more so about the EU, since trying to save the Euro signifies seriously endangering the EU, and that is something much worse.

That´s why the markets are schizo!

Sir Tony Jackson could just the same have titled his “Caught between business as usual and more aftershocks” May 3, with “Caught between wanting to make money and wanting to salvage as much as possible”. The problem as we know is that both wishes requires entirely different strategies, which is why the markets are schizophrenic.

The Euro or the EU?

Sir Alan Beattie is right deriving “Lessons for the Greek crisis from Philip II of Spain” May 1. Greece is of course much better of keeping all the help they can get for the morning after than for the night before… especially when in this the night before, though very late, it is so hard to discern any morning light.

Only a speedy restructuring of Greece´s debt can avoid having to choose between the Euro and the EU.

Financial Times is equally a promoter of “metaphysical presumptions”

Sir your ‘Faith in numbers” May 1 is truly odious in the way you arrogantly and ironically joke about religious beliefs while blithely ignoring how much you yourself have been helping to give credence to bank regulations that seem to be just the same or even more based on “metaphysical presumptions”.

Or what would you call having the capital requirements for our banks based on some opinions of the credit rating agencies and as arbitrarily weighted by the high priests of the Basel Committee? If that is not pure purposeless mumbo-jumbo or hocus-pocus, what is?

But what were the regulators smoking?

Sir in “Double or quits for the eurozone” April 29, you say that “Credit raters made things worse by again following the markets they are supposed to advise”. Would you care to expand a little bit on that?

To me it was really the regulators who made things worse by telling banks to have capital in accordance to what the credit rating agencies say... and for instance allowed the banks to stock up on Greek public debt with only 1.6 percent of capital... in other words authorizing the banks to have a 62.5 to 1 leverage when dealing with Greece! What were the regulators smoking?

Triple-A securities did not turn into junk, they were junk made into triple-As, simply because there are not enough real triple-As to go around.

Sir John Gapper writes “this crisis was of a severity beyond others in the past, and triple-A securities were at its heart” ‘Time to rein in the rating agencies” April 29. The first letter of mine, and that you published on January 12, 2003 ended with “Everyone knows that, sooner or later, the ratings issued by the credit agencies are just a new breed of systemic error to be propagated at modern speeds”. At last count I have sent you 391 letter more on this topic and so it would seem that after a definite statement like Gapper’s I should now be able to let it go. Not yet!

When Gapper in his quite comprehensive article states “If all the subprime mortgage securities they rated triple A had not turned to junk…” he completely misses the point. It was the shear existence of the credit ratings that, when combined with absurdly low capital requirements for banks when lending or investing in triple-As, which provided all the incentives for the markets to manufacture the “junk”.

Given the possibility of accessing a triple-A rating the worse the mortgage, the higher the interest rates, the larger the difference between the real and the perceived value and therefore the larger the profits.

Sir, please grow up and face the facts of life. There are not enough true triple-A investment opportunities to go around for all the coward capital that exists in the world. Pursuing triple-As too much will either lead us to false triple-As or to absolutely unproductive triple-As, like putting your savings in a mattress and having it stored at Fort Knox, paying a custodial fee.

If the incentives are correctly aligned all bonuses make sense.

Sir, John Kay in “When a bonus culture is just a poor joke” April 28, that he would have felt insulted if as a teacher he were to receive a bonus from a student on the successful completion of a course.

Why should he feel that way if the incentives were well aligned? You see it is really not the completion of a course that matters, as Kay seems to believe, but what you do in life with that completion. In this respect let me share with Kay some brief paragraphs I posted on one of my umpteenth blogs a couple of years ago.

Don’t give your teacher an apple; offer him a couple of basis points in your earnings instead.

Parent and students need some way of sorting through the reams of college information in order to make rational investments, but may I remind you that even when finding the absolute perfect college that you might benefit from aligning the incentives better.

In this respect what I am currently recommending my young friends when they take off for their MBA is that they offer a couple of basis points on their first 10 years earnings to those teachers they feel could best advance their careers…it makes wonders! 

Aligning the incentives could in the long run also be the best way of getting information for the picking of a college to, as education should in fact be a joint venture between students, teachers, and colleges.

I refuse to follow Martin Wolf down the road to financial obscurantism

Sir when comparing the ease or even gusto with which Martin Wolf has supported government spending to bail out the economy, imposing no public debt to taxpayers willingness ratios at all, with the way he now wants to strictly limit the banks’ lending activity, I am truly shocked, “Why cautious reform of finance is the risky option”, April 28.

Wolf, after years of receiving, acknowledging and ignoring my letters about the excessive leverage ratios allowed to banks on assets perceived as having low risk, like 62.5 to one on anything related to an AAA rating, now suddenly goes into full reverse and opines that “Leverage ratios of 30 to one are crazy. Three to one looks far more sensible”.

Well let me assure you that just even searching for a three to one capital ratio for banks world, would make us lose all our hopes of trying to solve the rest of the world’s urgent problems, and most certainly lead us to financial obscurantism with pure gold bartering and no credit at all. I refuse to follow Martin Wolf there!

In fact the 12.5 to one capital ratio, allowed to banks when lending to small businesses and entrepreneurs, and which of course had nothing to do causing this crisis, should perhaps even be increased slightly, now when we are in so much deer need of jobs.

Plain stupid or shameless… have a pick

Sir on your front page in “Moody’s admits to failings over crisis”, April 24, Stephanie Kirchgaessner and Kevin Seiff report that “The chief executive of Moody’s admitted to a Senate panel yesterday that the US credit rating agencies failed to anticipate the severe deterioration in the US housing market that led to the financial crisis”.

If Raymond McDaniel does not know what role the AAA ratings had in creating the worst part of the bubble in the US housing market and which had to explode, then he is plain stupid, but, if he is not that stupid, then he is just shameless… Have a pick!

Why should George Soros be licensed to kill and not the bankers?

Sir George Soros in “America must face up to the dangers of derivatives” April 23 describes these as “a licence to kill” and he is wrong.

Just as a gun a derivative can do good or bad depending on who pulls the trigger on what and with what accuracy. In this respect, and given that in matters of investment George Soros could also readily qualify as just another gunslinger perhaps he should hand in his licence to kill too.

Undue influence?

Sir amazed I read on FT’s front page “”Bankers influenced rating agencies… unduly” April 23. I ask, did not the regulators unduly influence banks and investors to give undue weight to many unduly prepared opinions of the credit rating agencies? Is not overselling one’s product something perfectly normal? Why would the credit rating agencies’ opinions be more covered by the 1st Amendment’s freedom of expression rights than the opinions of the bankers?

Don’t fight it… accept it… on the subject of the hundreds of letter I have sent you denouncing the very subprime bank regulations that were concocted by the Basel Committee and which that caused this crisis… you have let yourself to be unduly influenced by the undue opinions to withhold from the general public my very correct opinions by some of your own opinionated writers.

I expected the Canadian bankers not wanting to live in never-risk-land.

Sir when the heads of the six major Canadian banks, those banks which better health makes them the object of envy of so many regulators and taxpayers in the world, issue a joint communiqué, we should read it very carefully “It is time to press on with bank reform” April 22. Unfortunately, my expectations were too high and I was disappointed.

Not only did it read almost like a Julia Child recipe... a little bit more of Tier 1 capital here.... and some more leverage testing there... but it also showed that neither they have a clear idea of what hit us.

Though they correctly state “Regulators do not need to specify which businesses banks should enter” they do not realize that is exactly what regulators do when they risk-weigh assets. Markets discriminate risks by charging different interest rates and so, when regulators award the lending to some assets lower capital requirements, because these are perceived by the credit rating agencies as less risky, they are actually instructing bankers to go to “risk-free” land. And, our problem, as a society, and though we do appreciate the efforts of lowering the risks in banks, is that we are not sure our best interests or future really lies in Never-risk-land.

They also write that if no distinctions, in terms of capital requirements, between low-risk and high-risk assets, something that I much favour, this “would encourage financial institutions to take more risk, which could make the system less stable”. Are they blind? Have they not wakened up to the fact that this crisis resulted from capitals stampeding in the search of AAA ratings, precisely as a consequence of the low capital requirements?

Where are the bankers who want to have the right to lend to their traditional client small businesses and entrepreneurs on their way to capital markets, without being distracted only because regulators favours what is perceived as having less risk? I had hoped these bankers were in Canada, now I am not any longer sure of that.

Why, for a change, not listen to those who proved beyond reasonable doubt they knew?

Sir, in November 1999 I wrote in Economía Hoy, Caracas the following:

“The possible Big Bang that scares me the most is the one that could happen the day those genius bank regulators in Basel, playing Gods, manage to introduce a systemic error in the financial system, which will cause the collapse of the OWB (the Only Bank in the World)... Currently market forces favors the larger the entity is, be it banks, law firms, auditing firms, brokers, etc. Perhaps one of the things that the authorities could do, in order to diversity risks, is to create a tax on size.”

And you of all must be aware of the literally hundreds of letters that I, though accused of boring and monothematic, have sent you about the extremely faulty financial regulation that were produced by the Basel Committee… and this before the current Big Bang.

That is why I read with much satisfaction that Martin Wolf titles his article “The challenges of halting the financial doomsday machine” April 21, better late than never. Since he is planning to address what to do about it the next week, I do hope he will consider some of what I have written to FT and to him… if only because I sure gave evidence of that I knew and know what was and is wrong… and this even though I am not a member of his group of great influential economists with their PhDs.

ABACUS 2007-AC1: The whole truth and nothing but the truth!

Sir I refer to the extensive report by Patrick Jenkins and Francesco Guerrera, “Goldsman versus the regulator” April 19. Yes Goldman Sachs might have behaved unethically and even illegally but the whole truth and nothing but the truth would in this case have to include the following facts, no matter how politically or agenda inconvenient they might be.

IKB the German bank bought the two tranches of ABACUS 2007-AC1 almost exclusively because of the following two reasons:

First both tranches, the A1 paying Libor plus 85 basis points, and the A-2 paying Libor plus 110 basis, points were rated Aaa by Moody’s and AAA by S&P when purchased by IKB.

Second, in order to invest $150 million in these securities, which because of their ratings were risk-weighted by Basel II at only 20%, IKB needed only to have $2.4 million of capital, 1.6%, when compared to the $12 million it would be required to have if lending that amount to unrated small and medium sized German companies.

If IKB had known that Paulson had had his hand in the picking and known fully about his motives then they might have asked for a slightly higher interest rate, perhaps 10 basis points, and still bought the securities.

If the securities did not have the splendid credit ratings assigned to them by the credit rating agencies then they would probably not have bought them even if Mother Teresa had done the picking.

If the regulators had placed the same type of capital requirements on all assets then IKB would have stayed home, probably lending to their traditional clients, instead of going to California to dig prime rated subprime gold.

And so while naturally we should lend all our support to efforts to eliminate wrong-doings like those described in the action by the SEC against Goldman Sachs that should not signify we take our eyes of the unfortunate truth of the world having been saddled with grossly inept regulators who created grossly bad regulations.

PS. The truth was even worse. Years later I found out the EU authorities, in a gesture of misunderstood solidarity had assigned Greece a 0% risk weight, which meant European banks could lend to Greece against no capital at all.

Where were the regulators on April 26, 2007?

I just read in the Washington Post that the CDO discussed in the suit against Goldman Sachs, ABACUS 2007-AC1, and in which investors lost more than $ 1 billion, was created on April 26, 2007

Just out of curiosity I went back to my blog TeawithFT and found the following letter:

On March 19, 2007: Let us pray the estimates are wrong

Sir, let us pray for that the estimate that 2.2m of American families could lose their homes and that John Gapper mentions in “The wrong way to lend to the poor” is totally wrong. If not, then let us prepare for the worst, as the political consequences of such fallout in the sub-prime mortgage market would by far surpass whatever all other thorny issues such as Iraq and the illegal immigration could all produce, together.

What I miss in this scarily good saddening and scaring article, is some words of how it came about that some 2.2m obviously individual shaky loans could have, when all was said and done, produced the sufficiently good ratings needed to attract so much money. The credit rating agencies sure must have some explaining to do, as has those Bank regulators responsible for giving the credit rating agencies so much power to begin with.

You can find it here http://bit.ly/9clEC9 ... but that’s not all friends;

On April 13 I responded to an article of Gillian Tett in FT titled “Subprime proposals could broaden litigation risk all around” http://bit.ly/d9I0rt

Also on April 13, 2007 I responded to an article in FT by Richard Beales titled “A whiff of double standards” http://bit.ly/d2vopp

And on April 18, 2007 I responded to a comment in FT by Desmond Lachman titled “Housing bubble burst into American elections” http://bit.ly/cxKT3P

And so there obviously has to be so much more to it? Where were the regulators on April 26, 2007?

Growth requires a willingness to take risks!

Sir Martin Wolf holds like most would do that “Growth is the fix for British Finances” April 16. To that effect he mentions among other, the interesting possibility of ending interest deductibility, though that could create some serious transition problems while markets adapt such a dramatic change.

But what he does not mention is the need to completely overhaul the current bank regulations. These regulations, by means of allowing special and low capital requirements for banks when involved with anything related to an AAA rating, benefits what already benefits from being perceived as having low risks. In doing so, the regulations quite explicitly discriminate against the risk-taking that is required to achieve what Wolf wants, namely growth, promotion of exports and a healthy manufacturing sector.

Plain “bad” regulators!

Sir Gillian Tett is obviously right in that this crisis was not the fault of “maths” or “economics” but of the “bad” maths and economics that was used and abused, “What happen to markets when numbers don’t add up”, April 16.

The question is why we cannot equally accept that the problem was not the lack of regulations but the existence of truly “bad” regulations. Is it really so impossible to imagine that the world landed in the lap of a particularly inept bunch of regulators, who were allowed to unsupervised empower credit rating agencies too much and concoct venomous capital requirement potions? The evidence of that being the case is overwhelming… and it really behoves us to act accordingly.

ps. Below, as part of the “overwhelming evidence” I refer to above, are some examples of how financial regulators set the capital requirements for the banks depending on whom they lent to.

Sovereigns rated AAA to AA were given a risk weight of 0% which results in a cap.req of zero percent.

Corporations rated AAA to AA were given a risk weight of 20% which results in a cap.req of 1.6 percent.

Small businesses or entrepreneurs, unrated, well they were risk-rated at 100% which results in a cap.req of 8 percent.

It is not that 8 percent is high but, when given the opportunity of zero or 1.6 percent capital… where did you think the banks went?

Should bank regulators not known that sovereigns and AAA corporations already have access to the capital markets and so that the first role of our banks is to help those small businesses or entrepreneurs who provide dynamism to the economy and the jobs we need, and to support them on their way to the capital markets?

Should regulators not know that in a world of coward capitals those perceived as being low risk are already favoured by lower interest rates and do not really need the assistance of further benefits given to them by regulators?

Should regulators not have known that by adding another layer of benefits to the AAAs they could create a stampede, turning safe-havens into dangerously overcrowded havens?

Should regulators not have known that sooner or later credit rating agencies would make mistakes or be captured?

EITI, unwittingly, is an obstacle to other cursed-citizen's requests.

Sir I refer to your Oily transparency April 15. In the debate on what to do with an oil curse the Extractive Industries Transparency Initiatives occupies so much space it does not leave much room for others who like me want the oil revenues distributed directly to the citizens.

In fact EITI is more of an obstacle since it states as its 2nd Principle“We affirm that management of natural resource wealth for the benefit of a country’s citizens is in the domain of sovereign governments to be exercised in the interests of their national development.”

When seeing how much oil-richness has been wasted in the hands of oiligarchs, petrocrats or plain thugs it is truly amazing such a principle should exist. I guess it is because it is always more fun to talk to an oil blessed politician or technocrat than with a poor oil cursed citizens.

http://theoilcurse.blogspot.com/

But freedom does not require formality and survives even in prisons

Sir Russell Napier holds that “Tower of debt will force a roll back of the free markets” April 14. I do not understand where he gets such an outlandish idea… if anything the markets, whether free or controlled, will topple the growing public tower of debt.

He also says “Commercial bank’s new capital adequacy ratios already require banks to hold higher levels of government debt”. Well no, the already quite old capital “inadequacy ratios”, allow banks to hold higher levels of debt if these debts are without risk and bank capitals are right now under enormous pressure because these public debts are being downgraded.

In fact that public debt has received such an unjustified preferential treatment by the financial regulators was just their pay-back to governments for giving them their independence and leaving them alone in their secluded quarters in Basel.

And so when Napier writes that “Western governments are left with no option but to restrict and corral markets and force capital private sector capital into action is support of public debt markets” what he is describing is not necessarily an exit plan but how we got into the mess to begin with.

Yes governments might be tempted to impose “capital controls”… perhaps like those China has and which allows it to keep an undervalued currency… but, as I see it, that could just lead to accelerate the rate by which the world goes informal, illicit and illegal, in order to survive their respective governments. The more capital controls the more are the havens worth… ask China… whose government does not even dare to spend its own money in China.

What a great short phrase!

Sir it is always a pleasure seeing someone able to describe perfectly a difficult situation in just one sentence. Therefore I would wish to congratulate Jennifer Hughes, The Short View, April 13, for saying it all summing up the market reactions to the “Greek bail-out” with: “In essence, investors appeared less relieved yesterday than they were worried last week”.

It is all there in only 87 characters and so that after adding 7 with the space for “Greece” she would still have 46 to go on her tweet!

Zapatero is just another Rolly Polly Doll

Sir we read in you interview of Spanish leader José Luis Rodríguez Zapatero, “A legacy in limbo” April 12, that he is “ready to be judged on plans to take control of public finances”. Are they not amazing these Rolly Polly Dolls when they with so much bravura announce they are willing to be held accountable on how they get us out of the mess they helped to get us into? They do all sound and act like financial regulators.

Secretariat of the European Systemic Risk Board… wow!

Sir on April 8, 2010, in the Financial Times I read the European Central Bank seeking candidates to occupy several positions in the Secretariat of the European Systemic Risk Board, “established with the purpose of identifying, monitoring and assessing potential risks to financial stability in the EU that arises from macroeconomic and financial developments”. I had to say wow! ... and cut it out to save it as a memento.

When will they ever learn? They set up the Basel Committee, which allowed those truly miniscule capital requirements like 1.6 percent so that helped already big banks grow to be the too-big-to-fail banks and they empowered the credit rating agencies so much that half of Europe followed them to dig nonexistent subprime gold in California… and they do not yet even know, much less accept, that they were themselves the largest creators of systemic risk.

And ECB wants to send out a message that they’ve got Europe’s systemic risks under control? Who is going to tell ECB that the candidates most likely to be useful in such a monumental quest are probably the least likely to be accepted by them?

When spotting bubbles, make sure you look at the right one!

Sir Kenneth Rogoff writes “Spotting the tell-tale signs of bubbles approaching” April 8, but ignores the risk of looking at the wrong bubble. Take the so called real estate bubble in the US for example.

If the triple-A credit ratings on the securities collateralized with the subprime mortgages had been correctly awarded, then the increase in the prices of the houses would perhaps not have occurred or, if they did, those prices could have reflected a reality of supply and demand and not a bubble. This is so because the real bubble we had was a mega bubble of unjustified trust in the credit rating agencies; and which started when the bank regulators foolishly and trustingly outsourced the risk watching to these agencies to such an extent that they allowed the banks to hold only a meagre1.6 percent capital if the rating was a triple-A.

Right battlefield, wrong combatants!

Sir John Plender in “Rules will decide the New York vs London Battle”, April 7, considers that one reasonable safe bet is that a new Basel agreement… will provide the basis for a level playing field on capital and liquidity” though “where the balance will fall between the two financial centres on all this is anyone’s guess”. Are we going to fall again for the same trick? It was with the excuse of reducing regulatory arbitration between banking centres that Basel created the regulations that served as growth hormones for the big banks. It is not about New York against London, Basel might be the battlefield, but the combatants are the too-big-to-fail banks and the underdogs, the too-small-to-matter-to-the-regulators banks.

Mexico needs to speak out against China´s renminbi manipulation

Sir I find myself 100 percent in agreement with Martin Wolfs “Evaluating the renminbi manipulation” April 7, since manipulation is what it clearly is. But that said perhaps more than the US talking and taking actions, others like Mexico, being the most affected, as it is their exports that are being displaced, should also do their share of loud screaming and hollering.

Financial Times, if you do believe in small state and open markets, you are certainly not showing it.

Sir in your editorial of April 7, “The UK must look beyond the crisis” you state with some hubris “The Financial Times stands for a small state social justice and open markets”. Sincerely, if that’s so, you’re not showing it.

Current Basel regulations require a bank to have 8 percent in capital when lending to a small business or an entrepreneur but if lending to a government of a sovereign rated AAA to AA- the banks needs zero equity, and this with any lens used is a clear expression of an immense bias in favour of the state.

On November 18, 2004 you published a letter I wrote that said “We wonder how many Basel propositions it will take before they start realizing the damage they are doing by favoring so much bank lending to the public sector. In some developing countries, access to credit for the private sector is all but gone, and the banks are up to the hilt in public credits.”

But since that, and after almost some 100 letters more on the same issue; and after you must have seen sufficient evidence of how banks all over the world, and especially in Europe, loaded up on public debt, not once have I seen express your disgust over something that most clearly goes against “a small state and open markets”.

And how would US’s California stand up to EU’s Spain?

Sir Spencer Jakab makes a very valid point in “California and Kazakhstan – just who is the underdog? April 3. Sadly though, he used an oil cursed nation to make his case and that is a bit like comparing apples and oranges.

Having much experience in debt restructurings I am used to look not only at the possibilities of default but also at what could be left “the morning after”. In the case of Kazakhstan, if it goes down the tube, most likely it will disappear as the nation it never really became but in the case of California it will still be California, a vibrant state of the US that is of course unless Mexico makes an offer no one can refuse.

It would be interesting if Spencer Jakab repeated the analysis comparing the California of the US with the Spain of EU.

But the AAA-ratings-bubble was the fault of very few!

John Authers is correct in that “Bubbles are the fault of the many – not the few” April 3, but that is of course with the exception of the AAA-ratings-bubble and which when it blew up caused the current crisis.

That bubble was the fault of only 3 credit rating agencies and of those very few regulators who empowered the credit rating agencies with so much credibility when they made their credit risk analysis of the clients of the banks, determine how much capital the banks should have… even to the extent of allowing the banks to hold a truly minuscule 1.6 percent in capital when lending to a private AAA client and, good grief, no capital at all when lending to a sovereign AAA.

The financial regulators should parade down 5th Avenue wearing their cones of shame

Sir David Roche writes “Watch out for sovereign black holes in the credit universe” April 1, as if the world should have to be warned now.

When regulators came up with the idea that if the sovereign was rated AAA to AA- then your local bank needed no capital at all when lending to its government, compared to the 8 percent required when lending to your unrated local entrepreneur… the future was there for all to see. Exploding public debt and black holes made up by the lack of bank equity. Just like what happened when banks were only required to have 1.6 percent in capital when lending to a triple-A rated company.

Where were the Financial Times and all other experts when their opinions could really have mattered? What percentage of the regulatory experts, or schemers, had an inkling of what was doomed to happen if they regulated the way they did? Does that not tell us something about the quality of the regulators? Should they, as a bare minimum, not be made to parade down 5th Avenue wearing their cones of shame?

A German Eurozone would suffer the reserve currency curse.

Sir Martin Wolf (who seems to be as obsessed with lacking German demand as I confess to be with the lousy Basel regulations for banks) writes “If the Eurozone itself became Germany, I cannot see how it would work”, “Why Germany cannot be a model for the eurozone” March 31.

It would work, with the Euro at 3 dollars, making it much harder to export the Eurozone would suffer like the US from the reserve currency curse... the safe-haven curse. That it would seem impossible for this to occur, on that I agree though.

P.S. I invite you to read what I wrote in Daily Journal of Caracas in1998 a couple of weeks before the adoption of the Euro… it explains what is happening now. http://bit.ly/9nuavy

But Greece should insist they only speak with ECB... for now.

Sir in “Europe manages a wise compromise” March 27 when you quote Churchill in that “the eurozone makes the right decision in the end, though not before exhausting all other alternatives” someone could interpret you as naively believing that the Greece problem has been ended, and we wouldn’t want that, would we?

Since in fact Greece is living an economic impossibility and since IMF represents hair that cannot be cut, if I was Greece I would much prefer calling IMF for help after a restructuring, not before.

By the way, if you were a young Greek and Greece were set upon making good on their debt no matter what, would you stay in Athens or go to Hamburg?

What we need is to face up to the shattered myth of a rational regulator!

Sir here we stand before the ruins of a financial regulatory system that limited its purpose to avoid defaults and put too much trust in credit rating agencies allowing for minuscule capital requirements whenever AAAs were present… and mostly discuss the myth of a rational market? What about the myth of a rational regulator?

Justin Fox commences to hint at what we really need arguing in that “Cultural change is key to banking reform” March 26. I support a drive to simplify regulation and not to complicate them even further as is evidenced by the reforms currently suggested by the Basel Committee and the Financial Stability Board.

Justin Fox, though also supporting simplification, argues this might not be enough, as shown by Lehman Brothers´ faking the balance which is evidence of “ways to subvert even the clearest of the rules”. He is right but let us not forget that Lehman Brothers´ what they were up to was hiding and trying to redistribute the losses while the regulators, pushing so much toward supposedly risk-free land, were creating losses… and that is no doubt a lot worse.

There are many looking for the Holy Grail of the “vision thing”.

Sir, amen was all my initial response to Martin Wolf’s “Back to the future imperils Britain” March 26, but then, thinking about the need of the “vision thing” I remembered something I had written in my book “Voice and Noise”, in which I recounted some of my reactions while an Executive Director of the World Bank.

“Strategic Plan

Suppose the country was an island and that the only boat with which you could leave it for the next thirty years was scheduled for departure today. If you were an ambitious and hopeful 15-year-old who loved his country and that has just read the country’s Strategic Development Plan, would you stay or would you take the boat?

When we read these plans, we are left with two lingering doubts:

What’s in this plan that separates this country from all the rest? As it is obvious that all developing cannot occupy exactly the same place under the sun or find jobs in agriculture, what more is there to lead us—except for an “If it’s Tuesday it’s got to be Tanzania!”

Yes! All the basic necessary tools are included in the plan: macroeconomic stability, brushing your teeth, better governance, eating your breakfast. But, where are you really heading and where is that green valley that will motivate and inspire your efforts?”

It looks like countries share much more than what is believed too many of them seem to be looking for the Holy Grail of the “vision thing”… and Tanzania is not even an island.

Greece would be nothing compared to the big AAA-bomb already dropped!

Sir, of course Goldman Sachs´ Erik Nielsen is correct saying that “ECB must re-examine its dependence on rating agencies”, March 25, since “no country would hand the controls of a nuclear device to a third party”.

But this has really very little to do with Greece as that would be just a minor tactical puff! The real big AAA-bomb already exploded in the subprime heart of the Empire, causing a couple of trillions of dollars in damages and radiating many harmful after-effects that we are just beginning to tally and comprehend.

The AAA-bomb

The resource cursed citizens merit more sympathy and respect

Sir, you have published some quite thoughtful articles on the resource curse lately but, though I tried hard, I could not find one single valid argument why the “Resource wealth need no longer be a curse” in the article by Mats Berdal and Nader Mousavizadeh published on March 25.

The resource curse have millions of people suffering horrors so it is somewhat upsetting to see it being taken as lightly as some acne that could disappear if only instead on private investors it is governments like China or other similar hopefully western states” are to invest in natural resources with long-term commitments dubbed “macro-finance”... resource curse exploiters are just what they usually end up being.

The resource curse is a cancer, for so many... and you just do not go around speaking lightly and self-servingly about easy cures to cancer. Please the resourced cursed citizens merit more sympathy and respect.

Just another oil cursed citizen

But it is also high time to stop rewarding perceived prudence.

Sir John Plender is very right in that “It is time to stop punishing prudence” by treating equity more fair when comparing to how debt is rewarded by the tax deductibility of interests, March 25.

But equally we also need refrain from rewarding perceived prudence, which happens when bank regulators, on top of all those benefits that already accrues to what is perceived as having lower risk, generously (and stupidly) layer on some minuscule capital requirements for banks any time they are involved with anything that can display a good credit rating.

As we have seen, and should have known, that undermines stability even more.

But some excessive virtues might not be a too bad vice for the world economy.

Sir yes, yes and yes I would absolutely agree with Martin Wolf that Germany must increase its demand, if only he could be able to hint at exactly what the Germans could be demanding more of in order to achieve a sustainable growth, “Excessive virtue can be a vice for the world economy”.

Perhaps, taking advantage of their currently quite green mindset, we could convince them to make a helicopter drop of resources on some green projects… that virtue, even though sounding a bit excessive, would perhaps not be a vice for the world economy.

But might the US have become sicker now?

Sir the more divided a nation is, the sicker. I as a Venezuelan should know. That is why I cannot join you in such unchecked felicitation for the US having passed their health bill, “Obama secures his place in history” March 23.

Since the only thing that a nation can truly unite around is something which can easily be understood, a more than 900 pages long bill unfortunately evidences that those involved did not care sufficiently about the health of the nation. That, for us foreigners who are convinced that so much of our descendants’ wellbeing is much dependent on the health of the US, does not make this truly a day to celebrate… and this even if we agree with the reform.

But there are some glimmers for hope though. Having lived in the US for more than seven years now, the only aspect related to health sector reform on which I felt there was almost total consensus about was tort-reform. That according to the bill is now to be studied by individual states, receiving quite modest grants of up to $500.000, with the idea of providing Congress a report on the issue in December 2016 and so, hopefully, then some source of unity could be provided for, but, why the wait?

Yes we need regulatory dynamism... in the right direction of course

Sir I much appreciate Tony Jackson’s call “Let’s get some dynamism into dynamic provisioning” March 22. He is absolutely right, as I have been arguing for more than two years, now is the time to lower the capital requirements for banks, at least for those small businesses and entrepreneurs and though they caused the largest regulatory capital needs had nothing to do with causing this crisis.

What two years? I have been on this much longer

http://teawithft.blogspot.com/2004/08/towards-counter-cyclical-basel.html

Regulators, please do no harm, you’ve done enough!

Sir Viral Acharya in “Why bankers must bear the risk of ‘too safe to fail´ assets” March 18, points out that “though AAA –rated tranches and repo financing are relatively safe, their entire risk is systemic in nature” and therefore [bank] regulations “should be more concerned about seemingly fail-safe assets… rather than worrying much about riskier assets”.

As you must have been able to gather from my many (unpublished) letters making the same argument I believe he is absolutely correct. My deepest concern though is how we all landed in the hands of bank regulators so naive as to believe that in a world of intrinsically coward capitals disaster looms where risk is perceived as high and not where the risks are perceived as low and therefore create conditions for stampedes towards safety and that could dangerously overcrowd even the ex-ante safest haven.

Again, for the umpteenth time, we need for our regulators to be fully aware that their regulations could be the source of the worst kind of systemic risk and, if they’re not, then we are much better off without any sort of regulation.

When selecting the regulators we must reduce the risk of a systemic fault or similarity in their thinking process. Now we have only single-minded gnome clones.

Those who cannot handle a test failing never test

Sir Tim Harford correctly proposes that “Political ideas need proper testing” March 18. What he fails to understand though is that the main reason for the politicians not wanting to perform tests on their proposals is that if they fail they would not know what else to propose and that is as we know a nightmare for these professional besserwissers.

Take as an example financial regulations. The regulators came up with what they thought was the splendid idea of rewarding banks with lower capital requirements if they kept themselves doing more operations deemed as having lesser risk by some external and supposedly independent credit rating agencies. Because it naturally led to the dangerous overcrowding of traditional safe-havens, like mortgages, the results were absolutely disastrous. But the same faulty regulatory paradigm is still applied, only because the expert regulators kept in their places have no clue about what else to do, and that they cannot allow us to see.

But Germany could always make an offer no one could refuse!

Sir Martin Wolf in “China and Germany unite to weaken the world economy” March 17, writes that “Since… Germany… has no chance of expelling any member it disapproves of from the eurozone it would have to leave itself”.

I am not at all sure about that. Germany could always make an offer to Greece and to Greece´s creditors that no one could refuse, especially if things go from bad to worse.

Germany could for instance guarantee 20 percent of Greece current debt in Euros if creditors are willing to convert the remaining 80 percent into New Drachmas at reasonable rates and with reasonable maturities. This would allow Greece to devalue and perhaps even keep the option of returning to the euro-fold at a more propitious moment.

It’s good but please do not call it a financial regulatory reform!

Sir you are correct in what you hold in “Reform is in sight” March 17, namely that “When money is loose and prudential rules are lax, banks will find dubious assets to stuff leveraged-financed balance sheets”. The current crisis is a result of the regulators authorizing banks to leverage up to 62.5 to1, if their appointed risk surveyors, the credit rating agencies, deemed these assets all but dubious.

But precisely because of that you should perhaps better refrain from referring to proposals such a Senator Chris Dodd´s bill as a reform, since it contains nothing that truly addresses the above. To do so might cause the impression that the work has been completed when in fact it has almost not started.

Play it maestros!

Sir I do agree with all of Martin Wolf´s good and absolutely cut clear “Chermany calling”, March 17, except for his last phrase “Forget all the self-righteous moralizing. Try some plain common sense instead.” That call unfortunately carries also a ring of self-righteous moralizing, since what common sense really tells us is that what is on the line is not the avoidance of some truly harsh adjustments, but more the timing of those. Are they to occur during our baby-boomers' time or after we have retired from the scene?

The world has two alternatives, one is to grow itself out of the crisis in the hope that it will find a sustainable economic down the road, the other is to readjust in the hope it can find a political sustainable and decent way to do that. Which way you prefer depends much on your starting point. Deficit countries are naturally more inclined to go for growth, surplus countries less so, if only because they have not the same keen urgency. Again, as usual, little will be done… until, as they say, the shit hits the fan, or the music stops.

Meanwhile I would be glad, and honored, to sit in a chair on deck, next to Martin Wolf, listening to some hopefully not too bad music we can both whistle to.

Why do you have to sound so envious of Germany?

Sir you might be absolutely right but with yours “Europe will not save its way to growth” March 16, you come out, for the umpteenth time in some few weeks sounding just envious of Germany. Though Germany might indeed have benefited more than its fair share from the conditions previous to this crisis there is no way you could blame German frugality for causing it.

If instead you spent some time trying to point out a seemingly viable way to sustainable economic recovery I am most certain that most Germans, or all of those non Germans that lay their hands on Germany’s savings, will gladly help out to take us there. But, just in case let me remind you that sustainable recovery does not seem to have a great chance in a world where China buys even more cars than the US.

Is a bailout the right pillar for a political union?

Sir Martin Wolf is quite clear on that much of Germany´s strength is based on other´s weaknesses and so he reaches the conclusion that in order to be able to manage difficulties such as the one Greece is having within the EU, “Germany must become less German”, “The eurozone crisis is now a nightmare for Germany”, March 10.

This is the classic dilemma, shall we put those students who study hard in the same group as those who do not in the hope that the average becomes better... or might we risk spoiling all by doing just that?

In normal circumstances I would probably agree with Wolf but given there are new recently discovered limits to sustainable growth, like climate change and lack of oil, I am not sure having Germans consume like American points in the right direction.

And then there is also the fact that the Germans do what they do because they´re Germans while the Chinese do what they do because their governments orders what they are to do, and so before China gives in I truly dislike asking the German to do so.

Is a bailout a good pillar for a political union? If the answer is no then perhaps we need to analyze more in detail the real implications of a eurozone breakdown before making our minds up. Whatever, at the end of the day, I would still prefer a German eurozone crisis´ nightmare than the Greek or Spanish version of it.

FT seems to be seriously obfuscated by some European issues.

Sir, in a world where there seems to be no sustainable way of taking average world per person consumption to even a frugal German level, I must say that I find your editorial of March 7, “The burden of German thrift” and in which you actually demean those not consuming as much as they could be consuming, to be outright irresponsible.

Yes, the economic variables need and will sooner or later be realigned so as to take care of the current disequilibria that are more the result of Greece having abused the strength of the Euro than of Germany abusing the weaknesses of the Euro. But, to be so obfuscated so as to prefer the Greek economic model to the German one points to some very serious underlying European issues in FT, and that I sincerely hope they can sort out for the good of all.

Naïve regulators went to sleep like babies.

Sir in “Do not rush to switch off the life support” March 4Robert Skidelsky and Marcus Miller refer to “flaws in regulatory philosophy that stemmed from the belief that the banks could safely be left to regulate their own risks”. That is simply not true!

The fundamental flaw was that regulators replaced the hard-work that financial supervision ensues with a naïve belief in some capital requirements based on risk they concocted and in the capability of some credit rating agencies to adequately measure risks… and then went to sleep like babies.

Had they left the banks to their own design and not influenced them with absurd low capital requirement for what was perceived as having low risks of default... something else might have happened, but not this crisis.

What we need more than anything is to get rid of the current bunch of regulators who have entrenched themselves in the almighty and to no-one responsible Basel Committee and which’s has in the Financial Stability Board its first line of defence.

If you can pay out on a credit default swap you are not naked.

Sir Wolfgang Münchau opines that it is “Time to outlaw naked credit default swaps” arguing that “the case for banning them is as strong as that for banning bank robberies”, March1. I must say that the simile provided is quite unfortunate not only because it is not more bank-robbery than the robbery that can be carried out by the bankers inside a bank but also because though bank robberies have always been banned that has not prevented them from happening.

The real risk with naked credit default swaps is that it permits someone to collect upfront the insurance premiums without necessarily having to capacity to pay up when the incident occurs, in other words the counter-party risk. If all those who are now selling a five years CDS contract covering Greek Bonds for €394.000 per year could immediately pay out the €10m they had obliged themselves to do then nothing would have happened except for a redistribution of moneys… and of course there would be no robbery involved.

In this respect we should not outlaw the CDS but instead assure these CDS are traded through clearing houses that apply rules which really guarantee the payouts, and make sure that our banks are required to have so large capital requirements against their CDS positions so as to remain banks instead of becoming bookies. AIG went wrong not because of its bets but because of the unlimited credit that because of the AAA-ratings it received as a bookie.

Sincerely, what could be more naked that the fact that our banks can hold zero capital when lending to sovereigns rated AAA to AA-? That has helped to cause the huge public debt overhangs much more than any consequential CDS trading has done and so, if something real is to be done about it, let us go for the jugular.