Monday, February 18, 2013

The absurd front and back door security of our banking system

Suppose you live in a house which has often been burglarized. It has two doors. One, your back door, faces a dark alley and has therefore many bolts and security latches. The other one, your front door, faces a well lit walkway in a friendly community, and so that even though it has a lock, it is often kept open. And absolutely all illegal entrances by the burglars have been through your front door, never ever through the back door. 

Now what would you say about a security consultant who then recommends you adding two pit bulls at your back door and placing a welcome doormat at your front door? Would you contract his services? I guess not. 

I say this because that is precisely what our bank regulators did with Basel II, by lowering the capital requirements for the banks when lending to “The Infallible”, those who enter by the front door, those truly dangerous when not really infallible; and thereby scaring away even more “The Risky”, those who enter through the back door, those who never pose a real danger, and those who are so useful for the  real economy.

The pillar of the Basel Committee and the Financial Stability Board regulations, capital requirements for banks based on perceived risk of assets already cleared for by means on interest rates, amounts of exposure and other terms, is therefore completely absurd. And now, with Basel III, with liquidity requirements also based on perceived risk, they want to close the back door and open the front door even more.

Even so the world still respects these utterly failed regulators so much that even an FT, which proudly declares a “Without fear and without favour” motto, dares not question their capabilities.

Could it really be that the silliness of these regulations exceed our society´s limits of imagination and so it has become trapped in the quagmire of a: “They can´t be so dumb, so what is it we do not understand?