Revamp completely the minimum capital requirements for the banks
Sir (as you probably must gather from my hundreds of letters to you on the subject and that you decided to ignore for reasons of your own) I totally agree with John Stroughair in that “Rating agency system stifles innovation and competition” March 5. The fact though is that the reason that we even have to discuss the issue of the credit rating opining are minimum capital requirements for the banks issued by Basel which stifles something worse risk taking and promotes something really bad, the reliance on others.
Currently if a corporation is rated AAA to AA- a bank needs to hold only 1.60 dollars for each 100 of lending, which signifies an astonishing 62 to 1 of authorized leverage. But in the case of a corporation rated below BB- the banks need to hold 12 dollars for each 100 of lending, 7.5 times more than in the case of an AAA, notwithstanding the fact that the bank will most certainly be more careful when it comes to lending to a below BB- corporation than to a AAA.
The difference of 10.40 dollars of required equity, especially in times when bank equity is so scarce and expensive, is a de-facto regulatory tax on risk, levied on top of what the market requires for accepting risks and which stifles anything that smells innovation and which often implies more perceived risk.
In this respect it is not only the credit rating agencies we need to get rid of but also of the current malfunctioning system of minimum capital requirements based exclusively on the limited concept of default risks. Just as an example, is not the risk of the default of our planet because of climate change much worse?
Currently if a corporation is rated AAA to AA- a bank needs to hold only 1.60 dollars for each 100 of lending, which signifies an astonishing 62 to 1 of authorized leverage. But in the case of a corporation rated below BB- the banks need to hold 12 dollars for each 100 of lending, 7.5 times more than in the case of an AAA, notwithstanding the fact that the bank will most certainly be more careful when it comes to lending to a below BB- corporation than to a AAA.
The difference of 10.40 dollars of required equity, especially in times when bank equity is so scarce and expensive, is a de-facto regulatory tax on risk, levied on top of what the market requires for accepting risks and which stifles anything that smells innovation and which often implies more perceived risk.
In this respect it is not only the credit rating agencies we need to get rid of but also of the current malfunctioning system of minimum capital requirements based exclusively on the limited concept of default risks. Just as an example, is not the risk of the default of our planet because of climate change much worse?
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