Future generations are and will pay dearly for regulators distorting bank lending in favor of sovereigns

Sir, I refer to Christopher Thompson’s “Risks lie in Eurozone banks’ government links”, February 10.

Thompson writes: “banks have boosted their profitability by using cheap ECB loans to buy government debt offering a higher yield. … An additional incentive is that holdings of sovereign debt do not incur any regulatory capital charge while, by contrast, loans to businesses would do.” 

And that is not exactly right. The capital (equity) requirements are not “an additional incentive” these are what make that operation possible. If banks had to hold as much equity against sovereign debt than against loans to businesses, they would not do this carry trade.

If banks had to hold as much equity against sovereign debt than against loans to businesses, they would not hold any sovereign debt at current rates… not in a million years.

The real risk of this regulatory discriminatory distortion is that governments are getting too much and paying too little for their debt, a subsidy paid initially by small businesses and entrepreneurs by means of less fair access to credit; and finally by the future generations that will suffer from the lack of real undistorted bank lending.

I qualify those regulations in favor of the sovereign simply as communism introduced by the backdoor.

PS. In 2004, in a letter published in FT I wrote: “bank supervisors in Basel are unwittingly controlling the capital flows in the world…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” and I now have serious doubts about the "unwittingly".