David R. Henderson  

Basel III's Deadly Cocktail

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The global sovereign debt crises, and the Greek fiscal crisis, are bad enough on their own. Basel III is just making things worse. If I may summarize past comments, under the purview of Basel III banks in the United States and eurozone banks are shrinking their risk assets relative to their equity capital. As a result, broad money growth [sic] for the euro area is barely growing and moving sideways.
This is from Steve Hanke, "The Deadly Cocktail of Basel III," Energy Tribune, September 14.

The whole thing, which is short, is worth reading.

HT to Pierre Lemieux and Jeff Hummel.

San Jose State University economist Warren Gibson, commenting on Hanke's article, writes:

1) Bank of America stock (BAC) is currently traded at about 1/3 of book value, but full book value is counted as Tier 1 capital. If shareholder equity were used instead of book value, BofA's capital ratio would be worse than Basel III accounting would have it, though I'm not sure by how much.

2) BofA engages in many businesses outside of deposit banking, e.g., Merrill Lynch -- retail brokerage and investment banking. If BofA's book value were to be apportioned among these businesses, one wonders how much would be attributed to deposit banking. Perhaps Basel III does such apportioning; I don't know.

3) Preferred stock equity is to be excluded from Tier 1 capital if it carries a call date as most do, no matter how far in the future the call date is. Seems like preferreds with a distant call date would be economically little different from those with no call date.

4) Is anyone questioning the very idea of one-size-fits-all capital requirements and contrasting it with market discovery of prudent ratios, i.e., free banking? What the banking business needs most is occasional failures to put the fear of God into managers and depositors alike!


On point 4, as long as we have deposit insurance, you can't put the fear of God into depositors.


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COMMENTS (3 to date)
Sonic Charmer writes:

Re: "Is anyone questioning the very idea of one-size-fits-all capital requirements"

Try Per Kurowski who appears to have been tirelessly griping about this for years, with razor sharp arguments that as far as I can see lack an intelligent counterargument, but to no avail.

My theory is that people just accept all the pronouncements of Basel [N] and do not bother to evaluate them critically because the whole endeavor has the word "Basel" attached to it which sounds like it must be some sort of classy Europeany type city type place so presumably the Basel [N] rules were made up by very suave sophisticated Europeany type guys in fancy suits.

Charley Hooper writes:

Regarding David's very last point about deposit insurance, I can see its value to prevent bank runs, but what about giving depositors just a little bit of fear? What about insuring 98% or 99% or even 99.5% of deposits? That little bit at risk might not be enough to cause bank runs but might still be enough to promote wiser banking. Has anyone looked into this idea?

Bryan Willman writes:

The problem with deposit losses is that for the vast majority of us it's not practical to evaluate bank safety. Doing so is a full time difficult job for investors and regulators who clearly get it wrong with some frequency. We can't have the entire population worrying about bank soundness all the time - some of us need to grow food and others to run the water utility.

Lack of deposit insurance or only partial insurance would likely create a great many pointless bank runs fueled by rumors.

I suppose we could replace banks with much simpler deposit only or simple-deposit/simple-loan style institutions. A sort of bank that could be run by a computer program, doesn't really need people. And in which innovation is explicity prohibited.

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