The Basel capital agreements

In the context of New Zealand, I wrote this back in 1991:

Prudential management is perhaps the area where the current
regime involves the greatest danger. The Basle-based regulations offer too much regulation
in some areas and too little in others, impose inefficient restrictions on banks, and
require ongoing government intervention in the banking industry.

Market participants also express a very strong concern that
Reserve Bank staff do not have sufficient expertise to discern the riskiness of banks. No
criticism of Reserve Bank staff is intended here. The staff are competent when asked to
perform their proper duties, but they do not have the training and expertise necessary to
provide up-to-date evaluations of bank safety. Only experienced bank managers with
detailed on-the-spot knowledge of a bank’s asset portfolio are competent to make these
judgments. The Reserve Bank does collect great masses of information on bank assets, but
the proper digestion and interpretation of this information by an outsider is a nearly
impossible task.

Banks exist as specialized lending institutions precisely because
outsiders do not have the information necessary to evaluate and monitor loans. For the
same reasons that a nationalized banking system would be disastrous, governments are not
able to evaluate bank portfolios effectively.

The Basle capital standards are not sufficiently high to prevent
crises altogether, nor is monitoring frequent and interventionist enough to spot incipient
difficulties on short notice. Current regulations create an illusion of safety and
government sanction of bank solvency at times when real danger may exist.

…Because of differential capital requirements for different types
of loans, regulations effectively alter the net price of making each kind of loan. Some
kinds of loans are subsidised and others are penalised. Not surprisingly, governments have
decided to subsidise loans to public agencies.

In addition, housing loans have also been given favourable
treatment. Banks are now especially eager to make housing loans, because such loans lower
their real, post-regulation cost of capital. In effect, the regulatory environment is
influencing how the banking industry allocates loan capital.

Regulatory attempts to forecast which types of loans are
"safe" are likely to backfire; regulators have no means of ascertaining the true
riskiness of different asset classes. In fact, regulations which artificially encourage
certain classes of loans decrease the safety of these loan classes. Subsidisation of
housing loans, for instance, can lead to overcapacity in the housing sector and falling
home prices. In a non-inflationary environment, housing can be a relatively risky

Government attempts to influence the composition of bank assets
have had a disastrous history in New Zealand. The older "asset ratio" system was
one of the first and most important targets of deregulation in the 1980s. Under a
different and more subtle guise, the Basle standards are reintroducing this system into
New Zealand.

That also sounds like Arnold Kling.  Here is the whole report, which I have not reread recently, and it is mostly on monetary policy.  It called for capital insurance in lieu of the traditional lender of last resort function; New Zealand banks were mostly foreign-owned and the New Zealand banking system was small relative to global capital markets.  So if capital insurance can work anywhere that should be in New Zealand.

I don’t, by the way, understand what Kiwis spell it "Basle" rather than "Basel," except that they are copying the French.


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