Nonsense and bad rules persist in banking
IN December, the CEOS of the eight largest banks in the United States participated in a three-hour posturing session before the Senate Banking Committee. It was a disheartening display that showcased the toxic blend of politics and asinine rhetoric that often characterises discussions about banking.
Much of the hearing focused on proposed banking regulations known as the “Basel 3 Endgame.” Claiming to “translate” the potential implications of this complex topic “for the average American,” Republican Senator Tim Scott stated that the proposed rules would lead to “fewer dollars to lend to Americans.” Bankers and several senators, including Scott, argued that by keeping a portion of the banks’ money “on the sidelines,” these regulations would prevent poor people from achieving the American Dream.
But these threats often originate from falsehoods, such as Scott’s suggestion that capital is something banks cannot use. In reality, as Democratic Senator Sherrod Brown noted, “Absolutely nothing in these rules would stop banks from making loans.” Instead, they would simply require banks to rely more on their own equity and less on borrowing to finance loans and investments. As the late US Federal Reserve Chair Paul Volcker famously observed, there is a lot of “bullshit” in the debate about capital requirements.
Prudent banks insist on borrowers having “skin in the game” when they lend, yet vehemently oppose regulations aimed at reducing their dangerous reliance on borrowing. Banks’ aversion to equity funding and addiction to borrowing enables them to shift costs and risks to others, ultimately benefiting at public expense. They often get away with it by keeping politicians and the public confused.
Shortly after the 2007-09 financial crisis, I realised that crucial policy decisions were being influenced by nonsensical analysis, impenetrable jargon, fallacious and misleading arguments, and inappropriate uses of mathematical models. As a result, opportunities to improve the banking system were constantly overlooked. By sowing confusion and leveraging their influence over politicians, regulators, lawyers, and economists, bankers have corrupted the mechanisms by which rules are formulated and enforced.
The 133,000-word “Basel 3 Endgame” adjusts a complex system of “risk weights” by trying to calibrate the rules. Banks have weaponised the complexity of the proposed rules, threatening to reject certain loans. In fact, with the debt subsidies we all provide them, they will take risks, chase outsize returns, and endanger us.
Over the past 14 years, I have consistently challenged the fallacies, irrelevant facts, and myths propagated by numerous bankers, policymakers, and economists. In November 2010, I helped organise a letter by 20 banking and finance scholars warning that the proposed Basel 3 reforms were grossly inadequate. I also debunked JP Morgan Chase CEO Jamie Dimon’s misleading claims about the Basel 3 rules in an open letter to the JP Morgan Chase board of directors and criticised Dimon for implying that what benefits large banks automatically benefits America. Recognising the importance of countering bankers’ obfuscation, the German economist Martin Hellwig and I published the book The Bankers’ New Clothes: What’s Wrong with Banking and What to Do about It in 2013.