April 29, 2016

If regulators artificially favor the access to bank credit of “the safe” “the safe” will turn risky, more sooner than later.

Sir, Gillian Tett writes “post-crisis regulatory reforms have forced financial institutions to load up with “safe” assets, too, to be used as collateral for deals… The net result is a dire squeeze on safe assets” “What pawnbrokers can teach central banks” April 29.

That is correct but, what about pre-crisis regulations? These allowed banks to leverage much more their equity with “safe” assets; and thereby earn much higher expected risk adjusted returns on equity with “safe” assets than with “risky” assets; and which therefore caused banks to lend too load up on “safe” assets, something that can be very risky.

So if you do not allow markets to allocate credit unencumbered by regulations, but favor the banks to lend to the safe, “the safe” havens are doomed to turned into dangerously overpopulated havens, sooner or later. And from what Ms Tett writes it seems that the “sooner” applies.

@PerKurowski ©