Saturday, September 13, 2008

Regulators Responsible for Current Credit Crisis?

I don't know enough about the subject to opine on the overall veracity of this article, but I think at a minimum it provides a good entree for anyone wishing to research the subject. A taste:
Specifically, Basel I's aims were to ensure that banks kept high capital ratios, to guarantee a competitive “level playing field” between banks from different countries, and to penalize risky behaviour by means of a target risk weighted capital requirement, such that the higher the risk of assets held by the bank the higher the required capital.

However, Basel I created a strong incentive for banks to increase their exposure to certain types of assets, deemed less risky by Basel I planners, such as interest rate derivatives, agency securities, and mortgages. For example, under the Basel framework, the risk of holding Fannie Mae (FNM) and Freddie Mac (FRE) debt was 20% of the risk of holding an industrial loan of identical amount. Little wonder then that Fannie and Freddie were able to grow so much.


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