#AI #OpenAI #ChatGPT: Do current bank capital/equity requirements promote or impede fiscal insolvency?

I asked ChatGPT:

"Do current risk bank capital/equity requirements, which favor banks holding public debt over loans to e.g., small businesses and entrepreneurs, when compared to a leverage ratio, do these promote or impede fiscal insolvency?"

ChatGPT answered:

"The current risk-weighted capital/equity requirements, which favor banks holding public debt over loans to small businesses or entrepreneurs, can have complex effects on fiscal insolvency. Here’s how these dynamics play out:

1. Promotion of Fiscal Insolvency (Indirectly):

Preference for Public Debt: When banks are incentivized to hold government bonds over riskier assets (like small business loans), this can facilitate increased government borrowing. Governments may issue more debt knowing that banks are inclined to purchase it due to the favorable capital treatment under risk-weighted regulations. Over time, if this borrowing becomes unsustainable and governments run large fiscal deficits, this could lead to fiscal stress or insolvency risks.

Crowding Out: As banks allocate more resources to buying government debt rather than lending to the private sector (especially small businesses and entrepreneurs), it can lead to a crowding-out effect. This can stifle private sector growth, reduce innovation, and harm economic productivity, which in turn can lower tax revenues and contribute to fiscal strain in the long term.

2. Impediment to Fiscal Insolvency:

Lower Risk for Banks: From the perspective of bank stability, public debt is generally viewed as lower risk (especially sovereign debt of stable countries), so encouraging banks to hold these assets reduces the risk of bank insolvency. Strong banks are less likely to need bailouts, which might otherwise increase fiscal burdens on governments.

Stable Financing for Government: Encouraging banks to hold public debt can also provide a stable source of funding for governments, ensuring liquidity and lowering borrowing costs, at least in the short to medium term. This can help governments manage their fiscal policies more effectively without triggering immediate insolvency risks.

Leverage Ratio vs. Risk-Weighted Capital Requirements:

Leverage Ratio: A leverage ratio (e.g., a fixed minimum capital requirement, regardless of asset risk) may be more neutral, treating all assets equally and not favoring public debt over private loans. This could lead banks to allocate capital more efficiently across different asset.

Leverage Ratio vs. Risk-Weighted Capital Requirements

Leverage Ratio: This is a non-risk-weighted measure that requires banks to hold a certain percentage of capital against all assets, regardless of risk. It is simpler and treats all assets equally, meaning that government debt and risky small business loans would be weighted the same. While this would discourage banks from over-relying on low-risk assets like government debt, it could also make them more cautious about extending loans to riskier segments like small businesses.

Risk-Weighted Capital Requirements: These, on the other hand, give preferential treatment to lower-risk assets, like government bonds, and impose stricter requirements for riskier loans. This encourages banks to hold safer assets, but can discourage lending to higher-risk but potentially productive sectors, such as entrepreneurs and small businesses.

Overall Impact on Fiscal Insolvency

Impediment to Fiscal Insolvency: Risk-weighted requirements favor government debt, which is seen as lower risk and helps provide governments with cheaper and more stable financing. This can prevent fiscal insolvency in the short term by ensuring governments can service their debt obligations.

Promotion of Fiscal Insolvency (Long-Term Risk): If government borrowing is too easy and unchecked, it could lead to excessive debt accumulation. Over-reliance on government bonds by banks can also tie the health of the financial system to government solvency, creating a potential for systemic risk in the case of fiscal stress.

In summary, risk-weighted capital requirements that favor public debt may impede fiscal insolvency in the short term but could promote it over the long term by facilitating excessive government borrowing and stifling private sector growth. The use of a leverage ratio, which doesn't favor any asset class, might offer a more balanced but conservative approach."

I said: Thanks!

It replied: You're welcome! If you have any more questions or need further clarification, feel free to ask. Happy to help!

Note: The answers are copied exactly from those given to me by OpenAI

Here my many other questions to ChatGPT – OpenAI on bank regulations

Before the debt ceiling is lifted, which it must be, Congress must dare to at least pose a question.

Note 1988: "Assets for which bank capital requirements were nonexistent, were what had the most political support; sovereign credits. A ‘leverage ratio’ discouraged holdings of low-return government securities” Paul Volcker

A letter in the Washington Post

Before the debt ceiling is lifted, which it must be, Congress must dare to at least pose a question.

In much of Peter Orszag’s Nov. 22 op-ed, “GOP threats to weaponize the debt limit are dangerous,” one can agree with his conclusion, but when he mentioned, “The evolution of debt is also influenced by the economy, market interest rates and other factors, but those are mostly outside the control of policymakers,” he omitted vital aspects. Let me explain it with a question:

What would the United States’ public debt be in the absence of regulatory subsidies, such as bank capital requirements with decreed risk weights of zero percent against federal government debts and 100 percent against citizens’ debts; copious amounts of Treasury purchases by the Fed with quantitative easing programs; and the preaching by modern monetary theory fans that has definitely promoted a dangerous lackadaisical attitude when discussing the limits of public debt?

Yes, Congress must approve increasing the debt level. It’s too late to do otherwise, but to do so without even trying to answer that question would be to irresponsibly kick the debt can forward and upward with disastrous consequences.

And, by the way, the Supreme Court should look at what the Founding Fathers might have thought about the aforementioned risk weights.

PS. The links displayed above are the ones placed on the web by the Washington Post

PS. Another letter in the Washington Post: The capacity to borrow at reasonable rates is a strategic sovereign asset that should not be irresponsibly squandered away.

There cannot be a road more conducive to debts turning unsustainable, than that of awarding credits just because they are sustainable.

If the debt ceiling is broken, will the Fed have to negotiate a platinum coin at the pawn shop?

Here what the US Supreme Court should look into, if it dares

Déjà vu! Not the first time I warn about a crisis can being kicked forward. The 2007-2008 was.

The Easy Debt governments have counted with the last decades have kept bureaucrats, politicians and their dependent on Easy Street

February 2023 Tweet

Regulators allow banks to hold much less capital/equity against government debt, bureaucrats/politicians spending now future tax revenues, than against loans to small businesses & entrepreneurs, those who could generate future tax revenues

Smart? Hell no!

“Moral Hazard: If governments believe that banks and financial institutions will always be willing to invest in their debt due to regulatory advantages, they may have less incentive to pursue responsible fiscal policies.” ChatGPT OpenAI #AI

What about a 1 percent AIDUS tax on all purchases, to help repay all public debt that in so many ways, shapes, forms and places, e.g., USAID, has been so much wasted?

Why, when I hear or read about MMT, do I start humming "Love Potion Number Nine"?

Love Potion Number Nine

I took my troubles down to Madame Ruth

You know that gypsy with the gold-capped tooth

She's got a pad down on Thirty-Fourth and Vine

Selling little bottles of love potion number nine

I told her that I was a flop with chics

I've been this way since 1956

She looked at my palm and she made a magic sign

She said "What you need is love potion number nine"

She bent down and turned around and gave me a wink

She said "I'm gonna make it up right here in the sink"

It smelled like turpentine, it looked like Indian ink

I held my nose, I closed my eyes, I took a drink

I didn't know if it was day or night

I started kissing everything in sight

But when I kissed a cop down on Thirty-Fourth and Vine

He broke my little bottle of Love Potion…

When all subsidized fiscal space, borrowing at capacity at reasonable rates and seigniorage has been consumed, and Easy Street ain’t no more, from what cliff will governments throw us out, from that of deep recession or from that of runaway inflation, or from both at the same time?

Notgelt – emergency money a timely British Museum exhibition in times of Covid-19

     

MMT’s High Priests assure us their intention is to issue money only to make sure that all unused resources are put to a productive use, but never so much as for inflation to take off. Hah! As if inflation is such a precise concept with equal consequences for all. Those who own shares and houses have clearly enjoyed the current “low” inflation much more than those who don’t.

A letter in Washington Post: The capacity to borrow at reasonable interest rates is a strategic sovereign asset

In his April 12 op-ed, "How economists led us astray" Robert J. Samuelson wrote, "What we conveniently overlooked was the need to preserve our borrowing power for an unknown crisis that requires a huge infusion of federal cash."

Yes, the capacity to borrow at a reasonable interest rate (or the seigniorage when printing money) is a very valuable strategic sovereign asset, and it should not be squandered away by benefiting the members of the current generations or with some nonproductive investments. 

So, when public borrowings are authorized, that should require Congress being upfront that a part of that borrowing capacity is being consumed, which has a cost, and give an indication of who (children or grandchildren born what year) are expected to have to pay back that debt.

Mr. Samuelson also referred to "low dollar interest rates [that] will keep down the costs of servicing the debt." Sadly, those current "low dollar interest rates" are artificial rates, much subsidized in that since 1988, with Basel I regulations, banks are not required to hold any capital against Treasuries, and of course subsidized by the Federal Reserve purchasing huge quantities of Treasuries.

PS. A reverse mortgage on our children’s and grandchildren’s future

A February 2023 Tweet

"Regulators allow banks to hold much less capital/equity against government debt, bureaucrats/politicians spending now future tax revenues, than against loans to small businesses & entrepreneurs, those who could generate future tax revenues

Smart? Hell no!"

Borrowing capacity is an asset that could end up having been consumed and squandered.

The capacity to borrow at a reasonable interest rate (or the seignorage when printing money) is a very valuable strategic sovereign asset. 

It should not be squandered away by the generation in turn only to benefit its members, or with some non-productive investments. 

When public borrowings are authorized, that should come with a clear recognition that a part of that borrowing capacity is being consumed, and with an indication of who (children or grandchildren born what year) are  expected to have to pay back that debt.

Here a letter on this published by the Washington Post in 2020

PS. Here's another letter on the subject published by the Washington Post November 2022

http://unsustainabledebtsustainability.blogspot.com/2004/11/bank-regulators-are-favoring-too-much.html

PS. How much would the MMT nonsense have advanced, had banks had to hold the same amount of capital/equity against loans to the government than against loans to the citizens?

PS. Have we not already imposed a too large reverse mortgage on our economy?

PS. When in 1988 bank regulators assigned America’s public debt a 0.00% risk weight, its debt was $2.6 trillion, 50% of GDP, now way over $28 trillion, about 125% of GDP, and it still has a 0.00% risk weight. When do you think that risk weight should increase to 0.01%? 

PS. At what level does public debt turn into a bomb that cannot be defused with traditional orthodox economic political tools, something which can only end with it exploding?

PS. By assigning a zero-risk weight to Eurozone sovereign’s debts, even though none of these can print euros o their own, much of that capacity to borrow at a reasonable interest rates that could be so helpful with the outbreak of coronavirus has now been consumed?

PS. At the end of the coronavirus/COVID19 day, who is going to pay for the overconsumption of our sovereign borrowing capacity, the older or the younger? History will tell but, meanwhile, I guess we all better take cover under the bliss of ignorance.

PS. If testing for coronavirus/COVID19 is “not needed but nice to do”, how much of our sovereign’s capacity to borrow at reasonable rates should we consume doing testing?

PS. During a dangerous drought, either you have experts distributing water to those who may need it most, or you give everyone a little water for each one to manage their own, but what you don't do is water the grass... e.g. $1.9 trillion Covid-19 relief bill/stimulus plan.

PS. MMT is a great act of economic miracle cure, peddled in the best tradition of medicine shows by those who as long as they can enjoy now what more public debt can bring them, do not care one iota about those who will have to foot the bill in the future, with high interest rates or runaway inflation.

PS. GDP can be obese or muscular. A GDP resulting from excess of carbs, such as QEs and bank regulations that favors what’s perceived or decreed as safe, e.g., sovereigns, residential mortgages and AAA rated; and the lack of proteins, such as that caused by bank regulations that disincentivizes credit to SMEs and entrepreneurs, will, almost by definition, be an obese GDP.

!!!Easy Street!!!

Bank regulators are favoring too much public borrowings

The Public Debt Balloon keeps on inflating and flying Up, Up and Away, ever since the Basel Committee cut its moorings, with their Sovereign 0% risk weight

Here part of my letter that was published November 2004 in the Financial Times:

“We wonder how many Basel propositions it will take before they start realizing the damage they are doing by favoring so much bank lending to the public sector. In some developing countries, access to credit for the private sector is all but gone, and the banks are up to the hilt in public credits.”

http://teawithft.blogspot.com/2004/11/basel-is-just-mutual-admiration-club.html

PS. For example, in 1988 when regulators assigned it a 0% risk weight, the US debt was $2.6 trillion. At end of 2017 it was US$20.2 trillion, and it is still 0% risk weighted.  If it keeps on being 0% risk weighted, it is doomed to become 100% risky.

A “Public Sector Borrowing Charter”, in order to really mean something significant, needs to be matched by a “Public Sector Lending Charter”

AFRODAD “Aware that African countries face tremendous problems in loan contraction and approval processes and public debt management contributing to unsustainable debt level” is proposing: "The African Borrowing Charter" (The link is to a previous version of the one I read during World Bank and IMF Spring Meetings April 2108)

It is a great initiative and all countries could in fact need something similar. If authorities were just forced to clearly identify in any spending bill, the direct marginal consequences on its public debt levels, that should help to inspire more responsibility. Public borrowings when authorized should come with a clear recognition that a part of their nation’s strategic borrowing capacity is being consumed. As is, it is way too easy for politicians to show great generosity and understanding for today’s needs, by just pushing the repayment of it on future generations.

That said a “Public Sector Borrowing Charter” stands little chance of fulfilling its goals if there’s no parallel “Public Sector Lending Charter” to which all lenders had to sign up to and against which the citizens could hold them accountable.

Imagine if for instance in the case of all those shamefully mortgages to the subprime sector in the US that were originated and packaged into AAA rated securities we were to hold the debtors for signing “odious debt” letting the real culprits, with their “odious credits” off the hook.

US Treasury Secretary Steven T. Mnuchin referring to the humanitarian crisis going on in Venezuela recently stated: “Creditors, whether private or public, that provide new financing to the Maduro regime are lending to a government that lacks legitimacy to borrow in the name of Venezuela.”

Do not tell me that Lloyd Blankfein, and all those in Goldman Sachs, were so naïve so as to believe the Maduro regime would give good use, along the lines of a reasonable Public Sector Borrowing Charter, to the credit they awarded Venezuela just about two years ago... and for which they have yet not apologized to the Venezuelan people.

What if violating a Public Sector Lending Charter could cause the credit to be declared illegitimate, and its collection not enforceable? Would that not be of great help for our children and grandchildren?

PS. I hear that the World Bank and IMF are again to raise the issue of Debt-Sustainability-Analysis. I pray the do not mention "sustainable debt levels" but concentrate on pointing out what consideration all debt should fulfill in order to be sustainable contracted.

Next to credit ratings, or perhaps even more, we need ethic and transparency ratings!

If you know you’re heading straight into debt unsustainability, is it not best to get there as early as possible?

I started decades ago thinking about the theme of (public) debt sustainability, with my homeland Venezuela in mind. Then, when I arrived to the World Bank as an Executive Director in 2002, I widened my perspective to include the public debts of developing countries in general. 

And so I started this my unsustainable debt sustainability blog.

But now, because of my concerns with the distortions in the allocation of credit to the real economy, produced by the risk weighted capital requirements for banks, almost in shock, I find myself thinking on the debt sustainability of developed countries; including that of the US. And of course, that is scary.

Here are some of my uncoordinated recent thoughts (some tweets) on this whole issue.

Statist ultra low risk weights that for the purpose of capital requirements for banks are assigned to the sovereign, guarantees excessive public debt and places a reverse mortgage on its economy which is going to burden future generations.

In 1988, when statist regulators assigned it a 0% risk weight the US debt was $2.6 trillion. At the end of 2017 it was US$20.2 trillion, and still 0% risk weighted. 

If it keeps on being 0% risk weighted, it is doomed to become 100% risky, just like what happened to Greece. But, any increase of that weight will scare markets out of their mind. 

Very high US debt might hinder investments needed to assure its military superiority, and so, at the end of the day, it could come down to the question of: What is more important, having the strongest military forces in the world, or an AAA rating?

What if so many Americans with too much mortgage debt, car debt, student debt, credit card debt and whatever other debt, intuitively picked Trump because he is a guy who has gone through six bankruptcy processes, and has still ended on his feet, and on top?

What if Trump tweets: “They tell me US already has too much debt. With that debt we have written a reverse mortgage on our economy, which will burden too heavily the next generations of Americans. So, OK, I know a bit ‘bout that. I’ve been there, about six times. I'll get down to some good (Great) negotiations... right away!”

Would that be end of the world, or a much needed cleaning?

It would sure be a dangerous mess... but would not the mess be worse if waiting longer for it to mess itself up even more?

Goldman Sachs financing of Venezuela’s corrupt human-rights violating government, shines the light on odious credits

Goldman Sachs has just provided Venezuela’s government with about $865 million in cash, against about $ 2.800 million in bonds paying an interest rate of 12.75%, for a price about 31% of their face value. That, if the bonds were duly repaid, would produce an internal rate of return of around 48%.

Google “Goldman Sachs” and Venezuela, and you will observe the public uproar this operation has caused… almost everywhere.

This is a perfect opportunity to initiate a much-needed debate on what should be considered as odious sovereign debt, so as to therefore have its right of collection entirely or partially void. I have wanted that debate to take place for a very long time.

http://unsustainabledebtsustainability.blogspot.ca/2004/04/odious-credit.html

http://unsustainabledebtsustainability.blogspot.ca/2006/05/debt-sustainability-analysis-sdl.html

http://unsustainabledebtsustainability.blogspot.ca/2015/10/we-must-not-allow-vulture-funds-to.html

Lets face it. Goldman Sachs, to avoid further embarrassment, might sell this credit in the secondary market to a vulture funds that could try to collect 100% of the face value of these bonds plus all its interest.

So let me open this debate by asking:

Lloyd Blankfein, how much do you think someone should rightfully aspire to collect on your 2022 Venezuela bonds?

If a country was a de-facto concentration camp, could its guards be accused of economic crimes against humanity?

I refer to Bello’s “The endgame in Venezuela” The Economist, February 6.

It states: “A mishmash of indiscriminate subsidies, prices and exchange controls, social programs, expropriations and grand larceny by official [and] the collapse in the oil price has exposed the Bolivarian Revolution as a monumental swindle…[and leading to] the supply of medicines fallen to a fifth of their normal level. Many pills are unavailable; patients die as a result…food queues at government stores grow longer by the week…Violent crime is out of control.”

So let me ask, if a country was a de facto concentration camp for many of its citizens who had no opportunities of leaving it, and the guards of the camp had behaved like what has been described above, including the fact that petrol is given away at less that 1/300th of the price of milk; should it not be possible to bring the guards in front of the International Criminal Court, accused of economic crimes against humanity?

And, if knowing the conditions in the concentration camp, financiers had anyhow, because of ultra-high interest rates, given the guards even more resources to waste, and to later be repaid by the prisoners, could not these participations in the bleeding be declared as having no value by that same International Criminal Court?

The world no doubt needs a Sovereign Debt Restructuring Mechanism but, if that is going to help the citizen-prisoners of the world, which it primarily should do, it must begin by making clear the difference between bona-fide normal credits and borrowings and odious credits and borrowings.

Because of economic crimes against humanity, a Nuremberg type of tribunal needs to classify Venezuela’s public debts.

https://foreignpolicy.com/2016/02/05/venezuela-is-about-to-go-bust/
And there is little doubt of that many of those who were financing the Bolivarian Revolution, were totally aware of that the government was committing what could be deemed as economic crimes against humanity. 

And so the question now becomes, do we need a Nuremberg type of court to classify what are normal bona fide debts and what represent an odious participation in the ransacking of a country?

http://unsustainabledebtsustainability.blogspot.com/search?q=Venezuela

http://radicaldelmedio.blogspot.ca/2014/09/dos-irresponsables-bailan-el-tango-del.html

http://radicaldelmedio.blogspot.com/2014/04/acreedor-lease-nuestra-constitucion.html