The final fate of Basel III?

by on December 7, 2011 at 1:55 am in Economics, Law | Permalink

“There aren’t enough assets in the world that are genuinely liquid and of high enough quality to allow all the banks to meet this ratio,” said Barbara Ridpath, chief executive officer of the International Centre for Financial Regulation, a London research group funded by banks and the U.K. government. “And that’s only likely to get worse because of the changing credit quality of some of the sovereigns.”

The debt crisis also is leading some regulators to question rules that allow European lenders to apply zero risk-weightings to government bonds issued in a bank’s home currency when calculating capital ratios. Under current European Union guidelines, banks don’t need to hold any capital against the securities, even after the cost of insuring government bonds against default rose to a record last month.

Here is more.  One plan is to “to allow banks to use equities to meet the liquidity requirement.”  Get the picture?  How is this as a stunning sentence?:

“The cash sovereign bond market has been less liquid than many would have imagined,” Lakhani said. “At least equities remain a liquid asset class.”

Hat tip goes to @counterparties.

Peter Russell December 7, 2011 at 3:11 am

C’mon, Tyler, how bad is it? We economic aborigines need some plain dealer talk, bro’.

prior_approval December 7, 2011 at 3:28 am

Countdown to eurogeddon at 2 (more or less) days – euro down a half cent or so against the dollar since Monday, and still up roughly .5 cents since the countdown began – http://www.ecb.int/stats/exchange/eurofxref/html/eurofxref-graph-usd.en.html

General reaction to S&P’s actions? – a cynical yawn. It is almost as if people in the eurozone are learning how to ignore the batty uncle in the corner endlessly muttering about the commies under the bed.

Andrew' December 7, 2011 at 7:45 am

Nobody cares about debt, but they do care about making payroll.

NAME REDACTED December 7, 2011 at 6:04 am

“The cash sovereign bond market has been less liquid than many would have imagined,” Lakhani said. “At least equities remain a liquid asset class.”

Well crap, the risk just became SYSTEMATIC bioches!

Nigel December 7, 2011 at 9:02 am

>the risk just became SYSTEMATIC<

The risk has been systemic for some time, since large chunks of sovereign debt started going straight from AAA to junk.
Speaking personally, I'd far rather be holding stock in, say, GSK than tranches of euro debt. It might even make sense for the banks to do the same.

Crazy times.

Rahul December 7, 2011 at 9:29 am

Agreed. What puzzles me is why the Basel-III writers carved out the special exception for sovereign bonds. Why not risk weigh them with ratings just as you do for any other bonds? Agreed that S&P, Moodys etc. don’t have stellar track records but still it seems better than a blanket assumption of super-safe.

There aren’t enough assets in the world that are genuinely liquid and of high enough quality to allow all the banks to meet this ratio.

It’s a ratio: if there aren’t enough safe assets maybe it is time to reduce exposure?

derek December 7, 2011 at 11:12 am

>What puzzles me is why the Basel-III writers carved out the special exception for sovereign bonds.

Hmm. I wonder.

NahuelPan December 7, 2011 at 12:08 pm

What about central bank bonds instead of bonds from sovereign treasuries? It would endogeneize the ‘lender of last resort’ role of the CB and monetary policy at the same time wouldn’t it?

celestus December 7, 2011 at 9:19 am

“There aren’t enough assets in the world that are genuinely liquid and of high enough quality to allow all the banks to meet this ratio.”

See, the US needs to run BIGGER deficits! Come on people!
[/Krugman]

Yancey Ward December 7, 2011 at 10:37 am

Bastard beat me to it!!

Randy December 7, 2011 at 9:39 am

Maybe I’m missing something, but if there is a shortage of qualified assets shouldn’t the solution just be to hold more cash (real liquidity) to meet the LCR? Not adding another dubious asset class to delude people into thinking these institutions could actually survive another stress that freezes markets.

zbicyclist December 7, 2011 at 9:43 am

The pessimist in me says this means “there isn’t enough money in the world to make the current structure of financial institutions reasonably safe.”

prior_approval December 7, 2011 at 10:29 am

The optimist in me says this means “there isn’t enough money in the world to make the current structure of financial institutions reasonably safe.”

Randy December 7, 2011 at 12:02 pm

This sounds like another way of saying money is still too tight.

Silas Barta December 7, 2011 at 10:11 am

Any word on the relative liquidity of roulette table bets?

Yancey Ward December 7, 2011 at 10:38 am

Don’t give them any ideas.

Foster Boondoggle December 7, 2011 at 1:33 pm

Equities are always more liquid than bonds thanks to exchange trading. This isn’t news.The question is, which one (and how much) can banks hold as assets against “safe” liabilities like deposits? For equities the answer is “not much,” because they’re volatile. That has nothing to do with liquidity. The fact that sovereign bonds are actually risky is also not news, at least not in the last week or year (or millennium, per Reinhart/Rogoff).

I confess to being mystified by the lead quote above. As Rahul said, they can always just cut back on levered exposure to risky assets like Greek debt (and “AAA-rated” subprime MBS, while they’re at it). That seems like a good idea all around. What’s the problem?

There is clearly a problem with Basel III’s sovereign bond risk weighting, which encourages regulatory arbitrage. But that’s not the main issue that’s getting raised here, is it?

IVV December 7, 2011 at 1:53 pm

So “We Are Not As Rich As We Think We Are” applies first and foremost to the banks.

No surprise there.

Joseph Ward December 7, 2011 at 1:58 pm

In a year of financial shocks, I submit the first sentence of this post as one of the most eyebrow raising quotes of the year:

“There aren’t enough assets in the world that are genuinely liquid and of high enough quality to allow all the banks to meet this ratio,”

Jeff Lonsdale December 7, 2011 at 2:16 pm

One of my coworkers: “Equities are quite liquid. Unfortunately they evaporate quickly.”

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