October 25, 2012

What would the Basel capital requirements have been for a bank to finance Columbus’ voyage to the Americas?

Sir, Ralph Atkins, Philip Stafford and Brooke Masters’ in their analysis of regulations titled “Collateral damage”, October 25, mention about “growing fears that the very actions meant to build stability into the financial system are doing the opposite.” 

Of course, but that should be old news. Have they not looked at all bank assets which created this crisis? These were all perceived as safe, “The Infallible”, and for which banks were given extraordinary incentives to hold, by means of very low capital requirements. The frantic and frankly stupid efforts by regulators to keep the bankers away from “The Risky” led to a dangerous overpopulation of some safe-havens. 

When are regulators going to wake up to the reality that there is nothing like independent safe assets, as most of their safety depends on the existence of a safe economy? What they need to understand is that in order for some assets to become and remain safe, risky assets need also to be financed. 

By the way, since the article refers a lot to IMF, as I have written to you before, I am very skeptical about IMF’s analysis of safe assets. In their “Report on the Global Financial Stability 2012” they listed a total of 74.4 trillion U.S. dollars: 33.2 (45%) in sovereign bonds AAA / AA 5 (7%) in sovereign bonds A / BBB, 16.2 (21%) in securities with special guarantees; 8.2 (11%) in corporate bonds rated investment grade, 3.4 (5%) in other governmental or supranational debt, and 8.4 (11%) in gold. 

Let me assure you that though, for instance, holding both sovereign bonds and gold can be a very safe and risk-adverse strategy, since if something goes seriously wrong you might at least be left with something, 30 years US bonds yielding 3 percent, and gold at $1.715 per ounce, cannot simultaneously both be real safe assets, no matter how much IMF suggests it.

The article is also illustrated with a painting depicting Columbus voyage to the America’s, financed by Queen Isabella and who supposedly pawned her jewelry for that purpose. If Queen Isabella had been a bank, what would you think would be the capital requirements for that loan? Would America have been discovered during a regulatory reign of a risk-adverse Basel Committee? 

Instead, Spanish banks financed "safe" real estate... against very little capital.