Sunday, June 21, 2009

They’ve left the rotten apple in the Financial Regulatory Reform barrel!

Though the proposed financial regulatory reform often speaks about more stringent capital requirements it still conserves the principle of “risk-based regulatory capital requirements” and by doing so the “new foundation” builds upon the most fundamental flaw of the current regulatory system.

Regulators have no business in trying to discriminate risks since by doing so they alter the risks and make it more difficult for the normal risk allocation mechanism in the markets to function.

Financial risk cannot only be managed by looking at the recipients of funds as lenders or investors are also an integral part of the risk. High risks could be negligible risks when managed by the appropriate agents while perceived low risks could be the most dangerous ones if the fall in the wrong hands.

The recent crisis detonated because some very simple and straight-forward awfully badly awarded mortgages to the subprime sector, managed to camouflage themselves in some shady securities and thereby hustle up an AAA rating. This crisis did not grew out of risky and speculative railroads in Argentina this crisis had its origins in financing the safest assets, houses, in supposedly the safest country, the US.

Are you aware of that for a loan to a borrower that has been able to hustle up an AAA the regulators require the banks to have only 1.6 percent in equity, authorizing the banks to leverage their equity 62.5 to 1?