E Central Banker ProCyclical Craziness

Bankers should be restrained by law from withdrawing liquidity in a downturn and increasing liquidity to the moon in booms. It is just a form of manipulation of the markets, in my view. It is not healthy and not even moral.

So, though I would not hold my breath, I am encouraged by the apparent goal of the BIS speaker, Mr Caruana, in encouraging the limiting of procyclical behavior by establishing a countercyclical buffer for the banks:

  On the procyclicality aspect, Basel III will promote the build-up of buffers in good times that can be drawn down in periods of stress. First, as I already noted, the new common equity requirement is 7%. This new higher level includes the capital conservation buffer of 2.5%,and will ensure that banks maintain a buffer of capital that can be used to absorb losses during periods of stress without going below the minimum capital requirements. This will reduce the possibility of a self-reinforcing adverse cycle of losses and credit cutbacks as compared with previous arrangements.

Second, a key element of the Basel III rules to limit procyclicality will be the countercyclical capital buffer, which has been calibrated in a range of 0–2.5%. This countercyclical buffer would build up during periods of rapid aggregate credit growth if, in the judgment of national authorities, this growth is aggravating system-wide risk. Conversely, the capital held in this buffer could be released in the downturn of the cycle. This would, for instance, reduce the risk that available credit could be constrained by regulatory capital requirements. The intention is thus to mitigate procyclicality and attenuate the impact of the ups and downs of the financial cycle.

Whether Basel 3, put off until the end of this decade, will come up with real changes in bank behavior, in their own behavior, remains to be seen. We can only hope this would happen. Crashes of bad credit offered are going to happen. But to then crash entire system when the bad credit goes down, all in the name of procyclicality, is just bad behavior on the part of the elite, who have learned to game the central banks.

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Disclosure: I am not an investment counselor nor am I an attorney so my views are not to be considered investment advice.

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