February 21, 2013

It was bank regulators’ excessive safe-taking which caused the crisis

Sir, John Gapper writes “The City’s freewheeling culture contributed to excessive risk-taking”, “Europe finally takes its bite from the City of London” February 21. That is incorrect and highly misleading.

All recent bank problems, like most in bank history too, derive from excessive exposures to what is perceived as absolutely safe, and not from excessive exposures to what is perceived as “risky”. What made this crisis particularly bad, was the fact that bank regulators now allowed banks to hold so little capital against assets so dangerously perceived to be absolutely safe. And so, what really happened, could be better described as an excessive regulatory safe-taking.

“Oh but the bankers should have avoided those dangerously huge 'safe' exposures” you might say. Yes, in theory. But, in practice, the fact that banks were allowed to leverage more than 60 times on some assets, and only 12 times on other, created irresistible competitive pressures which doomed the banks to dance, until the music stopped… and anyone not knowing this does not really know of banks, or of any other business for that matter.