December 28, 2015

Eurozone needs regulations that do not distort the allocation of bank credit much more than a full banking union.

Sir, I refer to your “A strong eurozone needs a full banking union” December 28.  In it you mention “The launch of the EU’s so-called single resolution mechanism, a significant expansion of the European Central Bank’s powers, and discuss the need “of a common deposit insurance scheme in the 19-nation Eurozone”… “in order to minimise the risk that fresh crises will erupt in the future and, if they do, to limit the consequences”

But what did that “financial whirlwind that tore through the bloc after 2008, destabilising Europe’s banks and putting into question the survival of its monetary union” really carry?

The answer is that which was perceived or deemed to be safe, and with which therefore banks were allowed to leverage immensely… like 60 to 1.

You seem to be partly waking up to this fact when mentioning “the potentially lethal connection between sovereign debt and overstretched banks that was amply illustrated at the height of the Eurozone crisis”. I am curious about what FT opined about the Basel Accord in 1988 (Basel I), that which set a risk weight of zero percent for sovereigns and of 100 percent for the private sector.

And if because of credit risk weighted capital requirements banks continue to allocate credit inefficiently to the real economy, this not only guarantees a new crisis but also that its cost would be higher than the cost of any fresh bank crisis that could result from totally unsupervised banks.

That is why getting rid of the regulatory distortions should have a much higher priority than the creation of any full banking union in the Eurozone, and that by the way could only help to increase dangerous moral hazards