Friday, February 3, 2012

BoE's Posen attacks banks for failing to do their job

The Telegraph reports that Mr. Posen, a member of the Bank of England's Monetary Policy Committee, is accusing banks of not doing their jobs and instead being "reluctant, risk-adverse jerks".

Regular readers are not surprised by this characterization of bankers as this blog has described on several occasions why they are behaving the way they are.  A brief recap:

  • Leading up to the beginning of the financial crisis on August 7, 2007, banks were not originating loans with the intent to hold them on their balance sheet, but instead to distribute these loans to investors through structured finance securities.  This is a very important point because the riskiness of the loans that banks might want to hold on their balance sheet to maturity could be considerably different from the riskiness of loans that investors might want exposure to.
  • Since the financial crisis began, banks have not been required to recognize all of their losses.  This is very important because it leaves banks guessing as to the value of the borrower's collateral [for example, this blog previously documented that banks are reluctant to lend against real estate because the price keeps falling].  Imagine for a second going into a loan committee meeting and trying to explain why a bank should grant a mortgage when the bank has two other mortgages on the same block that are not performing.
  • Since the financial crisis began, financial regulators have been pursuing a strategy of requiring banks to raise their Tier I capital ratio.  As predicted on this blog, banks are having difficulty selling equity because investors cannot assess the risk of the bank.  The result of having their access to the capital markets cutoff is that banks are electing to shrink their balance sheet and increase their income through fees they charge.
Perhaps the performance of bankers would be dramatically different if financial regulators would pursue policies, like requiring ultra transparency, that address the underlying cause of the on-going financial crisis.

Imagine for a second what would happen if investors had current information on an observable event basis for the collateral backing structured finance securities.  Suddenly, these securities could be valued.  With the ability to value comes primary market demand for additional securities.  With primary market demand comes banks originating loans to distribute....
Mr Posen, a member of the Bank's nine-strong Monetary Policy Committee, added that banks were making "excuses" for their failure to lend to small businesses, suggesting the real reason might be that they are "reluctant, risk-averse jerks". 
Speaking to Sky News, he said: "We, the British taxpayer, but also the British government as a regulator, is not getting value for money because the role of banks ... is to provide credit for growth of the real economy in the UK and they are not doing the job. 
"We've got to change the competitive pressures on them, change the rules on them so they're forced to do the job right." 
Official figures show that small businesses repaid 6.1pc of their outstanding debts to the banks over the past year as the cost of borrowing became more expensive. Mr Posen claimed that the decline in borrowing by small businesses was not due to lack of demand, as the banks have claimed, but to the higher cost. 
"When banks say it's all about no demand [for loans], that's crazy," he told BBC Radio's Wake up to Money. "Fees, prices and spreads on loans going to small businesses are going up, and normally prices don't go up when demand is falling." 
He added that banks were using new capital and gearing requirements as an excuse to limit lending. "They are not being forced to build up capital and cut back their balance sheets as much as they claim... It's an excuse, it's not a reality," he said. 
To explain their behaviour, he wondered whether bankers were "reluctant, risk-averse jerks" or if there was a more fundamental problem. 
He claimed banks were choosing to roll over loans to big businesses rather than make new loans to smaller firms and stressed that the problem was particularly acute in the UK due to the lack of alternative funding for small businesses. He urged the Government to press ahead quickly with its credit easing programme to get £20bn into the sector.

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