The lies of the EBA about how safe our banks are.
They tell us; “it is all fine, we don’t need more capital”. Then suddenly, in matter of short time, they come back and ask us for more money. The latest of banks first telling us all was fine, and then asking for help, is Spanish Bankia. From Golem.
Some time ago in the Propaganda War series (Markets don’t Fail, Risk Weighted Lies, Balance Sheet Instabilities, Toxic Bloom of Lies and The Banker’s Mexican Standoff ), I questioned the system of jargon which banks and their regulators use to assure us, and perhaps themselves as well, about the risks they run, and their claims of having it all under control. I suggested that the concepts, for all their pretensions to mathematical precision, were dangerously stupid and actually little more than self-serving piffle.
In Toxic Bloom of Lies, I looked in particular at the technical sounding notion of Risk Weighted Assets. A bank’s Risk Weighted Assets are just the amount the bank expects to make back on the loans it has given out, multiplied by some estimate of the risk that some or all of the income from the loan might not be paid back. Not that complicated really but essential if you want to really know how solid a bank is. Of course the obvious question is who gets to set the risk factor?
And the answer is, part of Europe’s Basel II banking regulations called the Internal Ratings Based System (IRB), allows the banks themselves, subject to ‘approval’ of course, to decide how risky their assets are and how much they think they might be in danger of losing on them. In Toxic Bloom of Lies I wrote and then quoted from the legislation,
They decide their own risk according to their own model… but subject to approval.
All institutions using the IRB approach will be allowed to determine the borrowers’ probabilities of default while those using the advanced IRB approach will also be permitted to rely on own estimates of loss given default and exposure at default on an exposure-by-exposure basis.
Advanced IRB as well! Of course the models being used are proprietary and therefore NOT open to scrutiny by any outside experts. What do you think, if the bank’s experts came up with two possible models one of which gave a lower over-all risk weighted total which do you think the bank would go for? And if another bank came up with a model that shaved just a little bit more off the risk weighting do you think there would be a subtle pressure to match the undoubted brilliance of their competitor’s model? I leave you to decide
Full reading here.