All the European Stock Markets are up this morning because shares in banks are up. And they are up because of one thing – the leisurely time scale given to the banks for implementing the Basel III agreement.
Basel III is the response to the financial crisis, of those who regulate global banking. There are lots of ways of presenting the agreement depending on if you want to make it seem like a wonderful thing or a terrible thing. The most telling response is that the stock market thinks the agreement is wonderful. And the reason investors like it, is that banks will have the next 9 years to meet the new higher capital holdings. Nine years. No urgency then.
The facts are these. The banks will have to hold higher reserves of what is called Core Tier One (up from 2% today to 3.5% by 2013 and 4.5% by 2015) and higher Tier one capital, up from 4% now to 6%. Those are reserves of actual cash or cash-like (readily convertible into cash) to respond to any future crisis.
On top of those reserves there will be two ‘buffers’ to be built up for use in a crisis, one of 2.5%, the other of 0-2.5%. Both of these will be subject to ‘discretion’. Which may mean in practice that they are hardly there at all. The first ‘buffer’ will also not be phased in at all until 2016-19. The second has no time table for introduction at all.
What we do if anything happens between now and the semi mythic time when these rules are actually applied – no one is talking about.
In the mean time another fact about these shiny new examples of regulatory prudence and concern for your welfare and mine, is that leverage levels will now be allowed to be up to 33 times Tier one assets.
Since 1975 there was a law called the Net Capital Rule, which limited bank leverage levels to about 12-15 to 1 and enforced mark to market assessment and oversight of bank assets. That rule was done away with in 2004 after 4 solid years of lobbying by Henry Paulson amongst others. Paulson was then head of Goldman Sachs and became Treasury Secretary under President Bush.
When the Net Capital Rule was done away with and banks were allowed to ‘oversee’ their own assets and leverage levels rose to 30-40 to 1. That is the ratio of how much debt is resting on how much actual capital. 30 to 1 is about the level Bear Stearn’s and Lehman Brothers were running, when they imploded. The Basel Committee which is headed by Trichet and made up of other National Bank presidents, thinks 33 to 1 is prudent? 33 times more debt than the capital being held by the bank. No wonder bank shares are rallying.
These are not prudent rules designed to avert another banking crisis. I don’t see how you can possibly argue that. 33 to 1 was not considered prudent in the past, therefore it is not prudent today. That seems simple to me. And allowing banks nearly a decade before they have to fully comply with higher capital holding rules, does not seem to me to be ‘capping the well’ with any alacrity.
What you can argue is that these rules are designed primarily to 1) prevent the banks from collapsing today and 2) allow them to push all their resources to their mathematical limits in order to make one more desperate attempt to achieve growth. That is what I think these new rules are aimed at.
They are not regulations for a sustainable and prudent future of banking. They are an emergency and unwise gamble on over-leveraged risk taking, simply because there is no other way of keeping an insolvent banking system going today.
Amidst all the hype of markets going up, which they undoubtedly are, lets try to hang on to a few less sparkly facts.
Today our banks are in a financial quagmire. If the Irish Banks were forced to hold more capital and to do so, lets say, within 18 months they would die. Anglo Irish is moribund and only alive because BOTH the Irish state and the EU only last week pumped in another €10 billion. And this week the Anglo Irish Bank is going to try to sell another €10 billion in covered bonds. Covered bonds are what you try to sell when you can’t sell anything else. Unlike other bonds which wait in line for a pay out if there is a default. Covered bonds sell because they have their own ring fenced set of assets backing them. This essentially gives them seniority over all other debt holders. Even over a government which might hold senior debt in the bailed out bank in question.
Meanwhile over in Germany, Hypo Real Estate, would also be dead and insolvent, were it not for yet another emergency capital injection, today, from the German government of 40 billion euros.
It is also an unpleasant fact that if Basel III had enforced higher capital holdings and a stricter assessment of which ‘assets’ can really count as Tier one assets, then Basel III would have killed a very large number of Germany’s Landesbanks stone cold dead. It is a lie to say we are now going to start being prudent. Because prudence would cut across every imprudent thing we have been focused on doing for the last two years.
The truth is we have been keeping the moribund and insolvent alive for two years. Basel III has now merely enshrined that folly in their own regulations. And are trying to pass it off as regulatory prudence. WHICH IT IS NOT.
The Landesbanks became, what bankers euphemistically refer to as the final ‘repositories of risk’ or ‘risk buyers’ during the bubble years. They are where a vast mountain of the Mortgage Backed US Securities ended up and where they are quietly rotting just out of the public gaze. Ireland AND Germany are sitting on vast mountains of debt. Basel III does nothing about any of this.
The Basel III rules are not about prudent reining-in of bank recklessness. They are a gamble that risk and recklessness might now be the only thing that can pull still the soldily insolvent (Yes I know they are making profits – but that is because we are sitting on, helping to hide and are paying off, their debts for them) from the slippery pit they have so far, after two years, still not managed to climb out of.
The rules are a gamble which will work, IF and only if, sustainable and rapid growth does re-ignite, does so very soon, is not wreaked by a default, and at the same time as generating huge profits for the banks ALSO manages to crush public spending over the SAME 9 year time horizon,… IF all that works, THEN the gamble these rules allow, will work.
That is what Basel III seems to me to be about.
I’m not trying to be negative for the sake of it. True, I don’t like this gamble. But it is what we are forced to do because we are still following the policy of ‘save the banks from their debts at all costs’. But what I really don’t like is the dissembling and dishonesty of pretending Basel III is something to do with prudence. I do not like being lied to.
At this point, with all the suffering we are about to endure, at least our leaders should have the courage to be honest with us.
Basel III is not a new set of restraints on banking risk. It is a charter to sustain if not increase that risk, for the next 4-5 years and then, maybe, slowly, decrease it a little bit. No wonder those who have shares in the casino are feeling flush. We have given them hundreds of billions of our livelihoods and now we have given them a free hand to gamble it.