August 25, 2015

Show steel and lower the capital requirements for banks when lending to the risky, or the economy will collapse

Sir I refer to Avinash Persaud’s “Show steel and raise rates or the financial system will fracture” August 25.

Though I do not disagree with what Persaud writes, I would argue that before the rates are increased, we should get rid of the credit risk weighted capital requirements for banks. These artificially lower the interest rates on what is perceived as safe, and artificially increase the relative interest rates paid by those perceived as risky... like SMEs and entrepreneurs.

By getting such distortions out of the way, it would be so much easier for the real economy to adjust to any interest rate adjustment. By leaving these in place, the distortions in bank credit allocation could be dramatically amplified when adjusting the rates.

I hear you: “Kurowski are you crazy? Lowering the capital requirements for banks on risky assets?”

Why not? “Risky” assets present much less risks of unexpected losses than those perceived as absolutely safe… and are not unexpected losses the prime reason for which banks are required to hold equity?