Jamie Dimon is right: Who Needs Basel III?

Sep 14, 2011 15:12 UTC

It’s beyond ironic — closer to moronic, really — that Jamie Dimon would give an interview to London’s very own Financial Times, complaining that international bank-regulation standards are “anti-American,” on the very day that the Vickers ReportRobert Peston calls it “the most radical reform of British banks in a generation, and possibly ever” — is released.

–Felix Salmon
Dimon vs Vickers

I have to disagree with Felix Salmon and agree with JP Morgan Chairman & CEO Jaime Dimon that Basel III is an anti-American nightmare and needs to go. There are many reasons why Basel III is irrelevant to the management and regulation of banks in the United States. In general, Basel is a poor risk management scheme for measuring bank capital adequacy.

First and foremost, the Basel III risk weighting standards are nonsense, with securitized and government guaranteed exposures given superior treatment (and lower risk weights) than comparable loans. Under Basel III as with the previous iterations of the Basel framework, lending is seen as bad, while complex structured securities, illiquid fiat currencies and OTC derivatives are still somehow seen as superior risks – even with the experience of the past decade of subprime residential mortgage backed securities (RMBS).

This entire framework is incredible, especially if you look at the use of quantitative models and statistics to generate default probabilities at the portfolio level to feed into the Basel III capital models. Basel III is a celebration of efficient market theory and economist guesswork, something that most reputable analysts and researchers have long ago rejected as pure garbage when it comes to risk analytics. Yet the Basel regulators continue to embrace this discredited approach. Why? Because, very frankly, the macro economists who dominate the Euro-American bank supervisory community have nothing else available to replace it.

Second and more important, the Basel III guidelines are rarely relevant to the managers of American banks. Because US banks still live with the more severe and arbitrary discipline of a leverage ratio, basically assets vs. capital measured without the benefit of ersatz risk weightings, managers of American depositories rarely run out of risk weighted capital as per Basel III, but leverage is a constant constraint. Whether a bank has too little or too much risk weighted capital is largely relevant only to regulators and lawyers.

Because agencies such as the FDIC under former Chairman Sheila Bair insisted on the retention of the leverage ratio for US banks, lenders such as JP Morgan have twice the capital to total assets of their EU counterparts, part of the reason for the lack of confidence in EU banks. Say what we may about Bank of America and other troubled lenders, but US banks still have substantially more capital than do banks around the world and especially in the Eurozone. To Felix’s point about Basel III being obviously good for American interests, I strongly disagree. Our rejection of the fantasy world of Basel III risk-weights saved American banks from looking like the insolvent shells of the EU today. From a practical as well as nationalist American perspective, who needs Basel III?

Third and more importantly, Basel III is extremely bad for the US housing sector at a very bad time. Reflecting the Euro bias of the Basel III apparatchiks at the Bank for International Settlements, the new framework demonizes mortgage assets, especially servicing rights. Nobody at the Fed, OCC or FDIC had the wit to object to this proposal, but this alone is reason enough for the US Senate to demand that President Obama withdraw from Basel III. Unless this ridiculous rule is changed, many US banks will essentially be forced to exit the residential loan servicing and warehouse lending businesses.

At a time when the US needs to be creating new capacity to support credit and leverage, adopting the Basel III rule is a bad idea. While some observers like Felix Salmon pay lip service to the illusion of international coordination of bank supervision, a more realistic view is that national treatment and rules remain the practical reality. When you look at the ridiculous pretense of EU banks referring to “risk weighted” capital ratios instead of simple leverage in their public disclosure, the bankruptcy of the Basel III process is visible for all to see.

Making US banks operate under rules that are acceptable to regulators in the EU, where most of the banks are insolvent or nationalized, seems like a particularly bad idea at present. Since the adoption of the first Basel accord three decades ago, the asset quality and solvency of EU banks have steadily deteriorated and American institutions have drifted into progressively riskier and opaque derivatives. Why should we follow this failed example for another moment longer? Dimon is right: America should withdraw from Basel III and embrace traditional American standards like the leverage ratio as the road to sanity and solvency in terms of prudential regulation for banks.



No, America should not withdraw from Basel III for many reasons.

There is nothing anti-American in Basel iii. Anti-American is the effort to take excessive risks and escape regulation. Anti-American is the strategy to speculate and when you win you keep the money, when you fail you are saved with other people’s money. Anti-American is also the effort to appear as a patriot when you try to hide your real agenda.

Basel iii is a minimum standard, not an accurate standard. It is a basis, and banks have to do more than the minimum (important Pillar 2 principle). If you want to do more than the basic Basel iii rules that you find wrong, you are following the new Basel iii rules.

Is Basel iii an excellent framework? No, it is not. But it is the best we have now. We can make it better. This is the way we build international standards.

George Lekatis

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Why the US debt crisis is a good thing

Jul 27, 2011 15:29 UTC

I must politely disagree with Felix Salmon of Reuters, Ben White at Politico and others who wring their hands and fret about the undoing of the world in the prospective debt default by the US. The damage is done, Felix declared on Reuters.com. I have heard similar views from many friends and colleagues, but I must disagree.

First the debate over the budget, pathetic as it may seem, represents an increase in the intensity of the public discourse over the nature of the American economy. Debate is good. It is the essence of checks and balances, the key feature that separates American democracy from the authoritarian states of Europe and Asia.

For too long Americans have been on auto pilot, relying upon elected representatives and various flavors of hired agents in Washington and on Wall Street to manage our money and our nation. It’s time to start paying attention again.

Second and more important, the debate over federal spending and the tradeoff between higher taxes and greater fiscal discipline begins a larger discussion about the nature of the American political system. After 80 years of borrow, spend and inflate to finance the Cold War, Housing Bubbles and the rest of the world’s growth needs, the US economy has reached an endpoint. The experiment in corporate statism begun by FDR in the 1930s and extended through and after WWII has brought us to the brink of insolvency.

Political gridlock in Washington means not only an end to growth in government spending, but also that we are no longer willing to serve as the overdraft account for the world in terms of demand for imported goods and services. As I noted in my 2010 book Inflated, the US has bailed out the no growth states of Europe three times since WWI. Each time our allies in western Europe have defaulted on their debts. Bring the US troops in Europe home, I say, right now.

Asia, likewise, has grown at the expense of American jobs, the bitter legacy of owning the world’s reserve currency. As the US reins in spending and the monetary excesses that created the illusion of economic growth since the 1980s, an illusion funded with inflation and vast amounts of public debt, our ability to bail out the EU will fade. Remember George Washington’s warning about “European entanglements.”

But the third and most important side effect of the fiscal crisis in Washington is that people around the world will start to diversify both commerce and financial transactions out of dollars and into other currencies. Far from being a threat, I welcome such an evolution. The less of world trade and finance that flows through dollars, the less easy it will be for the Treasury to issue debt or for the Fed to monetize this borrowing on the backs of US consumers and businesses via steady, unrelenting inflation.

Of course Nobel Prize winning economist Paul Krugman rightly notes that a reduction in federal spending will result in pain for many Americans. But what he fails to tell these Americans, especially low income working people he pretends to love, is that the cost of the borrow and spend policies advocated by second generation New Dealers is persistent inflation, a diminution of purchasing power that is just as surely killing the hopes and dreams of all Americans.

I have long argued that a low growth, low inflation environment is better for the working people that the manic, boom and bust cycles caused by big federal deficits and following accommodative Fed policies to make this all seem to work in a nominal sense. Alan Greenspan, after all, was at best a tool; a cog in the machine.

Americans need to understand that we face not a mid-cycle slowdown, to paraphrase the economist Richard Alford, but a post-stimulus adjustment to economic reality. Think post WWII in fact. If this crisis helps to break the cycle of debt and inflation, that is a big plus for America’s long term prospects.

The right choice for Americans is to say no to ever more debt and to instead embrace debt reduction and restructuring of insolvent banks and markets to restore economic solidity. Both in the EU and the US, debt levels by governments and consumers must be reduced to restore national and personal solvency, and thereby start the great growth game all over again.

Do Americans have the courage to make the tough choices, cut spending and also generate more revenue, and thereby set an example for the world? I think the answer is yes, but it may take some time. That is why I am in no hurry to pass the new debt ceiling. A few days or weeks of pain will raise the political temperature in Washington even further and bring all Americans into the proverbial kitchen for a long overdue family discussion about money. And that is a very good thing.



The Author should recognize the pattern of cut, retrench, attempt to restructure and final collapse that brought about the end of the Soviet Union after its disastrous term in Afghanistan.

The fall of the USSR brought about the break up of its territory, the collapse of it creaking social support system and opened the door to years of chaos and economic power grabbing by insiders in the emerging political order.

The trick for the aspiring oligarchs here will be finding the insiders that somehow manage to keep their heads and influence in what will no doubt be a very “fast paced and exciting environment” for the most treacherous and greedy bastards one could possibly imagine.

They will simply never be able to set foot outside their armored limousines and securely gated compounds without armed escorts.

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