Risk Off

This paper by Andy Haldane provides an interesting analysis of the role of macro-prudential policies during periods in which risk aversion dominates market sentiment.

16 replies on “Risk Off”

That is an excellent analysis and helpful. Though I’m not particularly convinced that varying counter cyclical buffers can help much when risk taking is too low. Also I expect those buffers would be calculated by risk rating of individual loan assets, rather than be a blunt instrument.

Also on the monetary side 0% interest rates haven’t been shown to be particularly efficacious

I think the big problem now is undrer confidence in capital investment in the real economy (rather than a credit slump) – and allied to this, fall in consumption.

A solution would be to print money, and have that money used for risky investments(not loans). Such might best be effected via the banking system (both small commerical and corporate) , with the bank getting no fee but a small equity portion, say 5% to be redeemed in 5 years.

This would devalue the money sitting around doing nothing, and spur that into action also.

I’ve suggested here before that we should declare Ireland a Basel III free zone. (Difficult I know given the IMF/EU/ECB deal, but given the fact that the ESRI is now suggesting we’re likely to get €3bn back from the banks recap – I say why not, because we don’t actually have functioning banks)

The evidence from this report suggests that Regulators have continued to fight the Regulatory wars when the soldiers in the field aka the banks are dying of starvation. The wars happened in 2002/2003/2004 but the Regulators were dining out at the time. Todays Regulatory battles are like war games – interesting but serve no economic purpose and cost a serious amount of scare cash.


‘..Chart 18 plots the path of the UK credit-to-GDP guide-path over recent years. Unsurprisingly, it suggests that UK banks’ capital ratios should have been tightened in the run-up to the crisis, with credit-to-GDP above its long-term trend by up to 10 percentage points. That disequilibrium has since been completely eliminated as credit growth has collapsed. Currently, the guide-path is close to cycle-neutral. Any further fall would put credit below its cycle-neutral level, implying a loosening to support risk-taking.

Setting regulation to boost risk-taking may feel like a new and radical departure from the past. But in fact it is neither as radical nor as new as it might first appear. In 1938, the US was facing a double-dip recession. Criticism of banks’ unwillingness to lend to the real economy was rampant. Fear in financial markets was mounting. The situation was eerily reminiscent of today.

At that point, Roosevelt turned macro-prudential. In the Uniform Agreement on Bank Supervisory Procedures, a relaxation of prudential and valuation standards was announced for US banks. This aimed explicitly to support lending and activity in the real economy, “the activist goal of liberalizing bank examinations to make them dynamically adjustable to current economic policies”.8 It worked. Lending and growth resumed…’

Tim Geitner has recently been quoted as the only thing that really matters in banking today is capital, capital and more capital. His close cousin Mathew Elderfield has been ploughing a similar furrow.

If the evidence on what we’re reading here and seeing on the gound is to be believed then messrs Geitner and Elderfield are wrong, wrong, and more wrong by the passing hour. It’s not the future we should be looking to in this case but the history books. Ongoing implementation of the Basel III death list is working.

I haven’t kept current with Basel III, but last time I was, it allowed Regulators large macro prudential leeway….it genuinely seemed to be giving them real prudential/discretionary powers.

Thus it is not so much Basel III to be concerned about, rather how it might be used. And us such Messrs Gerlach and Honohan will likely have the larger say on the macro prudential aspects


Indeed it does allow leeway but in Ireland we’re working toward a 10.5% Core Tier Ratio when in reality someting akin to 1% is probably more appropriate.

In any event capital ratios are a dire method to use to establish the safety of banks balance sheet – longer term the only metric that actually stands the test of time is a conservative Loan to Deposit ratio at c100% or below. It’s the most natural risk hedge in banking – if you got it you have to be careful with it and without it, well you don’t play the credit creation game. Relatively easy to administer and Regulate and doesn’t require teams of lawyers to stand in waiting on either side.

10.5%….lovely round number…sighs

The number should obviously vary from bank to bank, and be based on actual risk. Different types of loans have different risks, bankers have known this for centuries, and charge different interest rates.

@Yields or Bust
If credit has become a Dodo why is our money still in credit deposits ? – I see no reason for credit in this economy to be honest – the Central bankers if truely acting altruistically are in cloud cuckoo land.
Of course the simple explanation is that they are acting selfishly to save their doomed credit empires.
The save debt destroy infrastructure, save debt destroy human capital save debt save your ass stratergy is near a Malthusian end point as interest / wealth extraction is nearly finished with.
JCT outburst about price stability which was only acheived through wage deflation in the face of massive credit inflation perhaps gives us some hope this banking pox is coming to a end.
But they will not go quietly me thinks – they will try to bring the entire economic ecosystem down with them.


Off-thread – but good overview of German Viewpoints today in Der Spiegel

Part 1: Merkel Faces Myriad Pitfalls in Bailout Vote
Part 2: How Many Billions of Euros Are at Stake?
Part 3: What Is the German Parliament Afraid of?
Part 4: How Has Germany’s Highest Court Ruled?
Part 5: What Is the Rescue Fund Permitted to Do?
Part 6: How Will the Crisis-Plagued Euro Zone Further Develop?
Part 7: What Is the Position of the FDP, Merkel’s Coalition Partner?
Part 8: Will Europe Soon Have an EU Finance Minister?
Part 9: What Is the Status of the Transaction Tax?
Part 10: Where Do Germany’s Opposition Parties Stand?
Part 11: Will Euro Bonds Be Introduced?
Part 12: Are We Headed Towards a United States of Europe?


Excellent analysis, but it leaves me cold. The ultimate ‘risk averse’ decision makers are small in number. They had no difficulty being risk on, if that’s the expression, when their computer models convinced them that nothing could go wrong.

To my mind, this paper fails to address the underlying irrationality of the ‘market’, instead portraying it as some sort of rational process in which individuals veer between being ‘risk on’ or ‘risk off’. I don’t know much about this stuff, but I suspect that there are people whose jobs are on the line if they make the wrong call so they follow the ‘herd’, or the calculations of whatever computer model they are hooked into at the time, to hedge their bets on an hourly basis. In teh real world and that of politics too, there’s no such thing as the instant solution.

The authors are right that at the end of the day it’s going to be a political decision – and a very brave one – that will break the impasse.

Looking at the 2006 Physical capital formation figures of 50 Billion.
We could have got 7 huge EPR reactors even at its bloated final cost due to technical issues.
One years capital formation money could have made the place glow …………
Something is very wrong with banking systems in the west – they are effectivally criminal outfits with law on their side.
And the ECB and their sisters like it that way.
Until this criminality or possibly social engineering is tackled head on we are doomed to a life of serfdom.
We have not forgotten the Club of Romes agenda – punishing deindustrialisation via wasteful credit mechanisms.

I find it somewhat depressing, that this rather good paper has a mere 9 comments. The current crisis was caused by insufficient information about risk. neither regulators, investors, nor other market participants had adequate information.

this paper should be a lot more important.

@desmond brennan

Have not got to it yet ….

Best I’ve read on ‘risk’ is the work of the German theorist Ulrich Beck – and his work on the ‘risk society’ … he argues that some risks are uncontrollable without ‘global’ ‘cosmopolitan’ involvement and that in some cases best that can be done is to ‘feign control over the uncontrollable’ ….. e.g look at divergent US and EU responses to the gurrier_bankers, many of whom understood the ‘risk’ but knowingly pushed them into future for others to sort while they gorged on short term bonuses profits etc such gurrier_bankers, of course, have nothing to fear in Hibernia – and most of them are still in position …. quite a few on the board of a bank in College Green

Do I sense a risk in NOT firing gurrier bankers? And is it not sorely ironic that one of the neo-liberal champions in the PDs, how dismissed risk, is now representing d’other of the Pillar Gurrier Banks against some of its own gurrier bankers who wanted to gorge some more – yet they are all still gorging in the cess pool and sending the bills to the supine idiot citizen_serfs, many of whom have not even been born yet!

The bank of England and the U.K. was at the centre of the cause of the financial crisis through lowering regulation to attrat business to London from Frankfurt and New York. The U.K. economy and the city of London is so dependent on finance. They are footdraggers on implementing regualtion so I am not at all surprised by this kind of article.

@ desmond brennan

‘I find it somewhat depressing, that this rather good paper has a mere 9 comments. The current crisis was caused by insufficient information about risk. neither regulators, investors, nor other market participants had adequate information’

As my late mother used to say, there are none so deaf as those who will not hear. The necessary information was everywhere, but as Veronica has pointed out, the incentives were structured so as to discourage its utilisation. Society is now paying the price for allowing vested financial interests to take control of the economy.

As Karl Polanyi put it, in his 1947 Great Transformation, the spread of market relations had an impact which was comparable to the spread of a great religion. It revolutionised society. The great Moderation, with its serial asset bubbles, and its media circus, has taken that process much further. Chequebook bunga bunga.

Haldane writes clearly, but he ought to take a leaf out of the Dork’s book and read a bit of history. Joe Public has been burned, and trust in bankers and ‘markets’ will be long time returning. Plutocracy corrupts democracy, and his own prime minister is already a lame duck. As for Obama, it is clear by now that he is the bankers’ candidate.

Paper is neat. Easy to read, good undergrad stuff. Does not ref. Koo or any of the 12 Apostles of Doom (the ones who DID see the debt Ponzi scheme developing).

Hazard: the potential to cause harm.

Risk: the probability of harm.

Bit tongue-in-cheek defs, but you get the drift.

Debt is a virtual , on-biological, pathogenic virion. Its a hazard; it can cause harm. So also, a biological pathogenic virion, but in this case the pathogenicity of the virion usually attenuates as the infection spreads out into a susceptible population. The 1919 – 1921 Influenza Pandemic is a good example.

But debt? Now debt can (without any nutrient or substrate) grow exponentially; its victims neither develop immunity nor die-off, and its pathogenicity does not attenuate. The debt virion only ‘dies off’ with deflation or inflation (of money). Choose your medicine.

Our stupid financial gobshites have not only ‘genetically engineered’ the pathogenicity of debt to obscene levels, but have mandated that more and more folk need to be infected (no die-off). In order to ensure this outcome they have mandated ‘growth’. Growth is a good incubator for debt virions. But, and herein lies the predicament. Growth is a ‘natural’ process: it IS subject to chemical, physical, mathematical and technological attenuation.

The prognosis for debt: not good.

Brian Snr.

Not a good start to reading this. The 90 day MAV sentiment (chart 4) looked like rubbish to me – it is data I follow. Reckon the dates are out by 12 months.

Trust the rest of it isn’t going to be quite as sloppy.

@ All,

I haven’t read the paper, but I always like to see Tversky, A, and Kahneman, D, 1974 work at the end in the references list. Some of the authors I most admire have used that original work quite a bit, to build some good new stuff around. I listened to a George Soros recent interview, in which he remarked the best way to offer stimulus into an economy, may be to relax the capital ratio requirement down from 8% to 6% at some stage, and to release that money into the economy to support business. There was a lot more to his version of a plan than that, and I’m sure it’s published out there in print somewhere. I only got the podcast interview, but his plan sounded of interest. BoH.

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