Many of our young will be without jobs, and will have to live in the basement of their parent’s houses, as a direct consequence of abominable bank regulations

Fact: The financing of house purchase is usually, with reason, perceived by bankers as much safer than financing entrepreneurs.

Fact: That means that, on their own, unregulated, banks would be expected to finance the purchase of houses more, and at lower risk adjusted interest rates, than financing entrepreneurs. 

Fact: But then bank regulators in 1988 doubled down on the same ex ante perceived risk and introduced risk weighted capital requirements. 

Fact: In those capital requirements (2004, Basel II) regulators assigned a much lower risk weight to the financing of houses (35%) than to the financing of entrepreneurs (100%).

This means regulators allow banks to hold less capital when financing the purchase of houses than when financing entrepreneurs. 

This means banks can now leverage their equity more when financing the purchase of houses than when financing entrepreneurs. 

This means banks can now obtain higher expected risk adjusted returns on equity when financing the purchase of houses than when financing entrepreneurs. 

This means that banks will even more prefer financing the purchase of houses, at even lower interest rates, than the financing of entrepreneurs.

This means easier, regulatory subsidized, access to house financing, causing higher house prices. How much of the easier  financing conditions when purchasing houses do we now have to finance when financing a house purchase?

This means a lesser, taxed by regulations, access to credit for entrepreneurs, causing less job creation and a slower growing real economy.

So, compared to what would be the case in the absence of these risk-weighted regulations this means:

For the young: Fewer possibilities of jobs and of buying their own houses. 

For house owners: They are sitting on assets that at current real valuations will not find buyers in the future.

For the aging: Lesser possibilities of taking care of their future needs.

For social peace: The young might revolt and shout: “Parents we’ve been cheated out of our future by crazy bank regulators, and you said nothing! So now you move down to the basements and we move upstairs!”

PS. Those more interested in providing our young affordable housing than in helping our young to afford the houses, which is of course not the same thing, are as I see it just some other vulgar redistribution profiteers.

PS. Here a brief aide memoire on the major mistakes with the risk weighted capital requirements

Who nudged regulators into using stupid and dangerous risk-weighted capital requirements for banks? The bankers?

Banks not capable of perceiving risks correctly, or not adjusting to perceived risks correctly, with size of exposure and adequate risk-premiums, should fail as fast as possible.

Banks capable of perceiving risks correctly, and to adjust to these correctly with size of exposure and adequate risk-premiums, would in fact not need to hold any capital.

Unfortunately, since banks could belong to the first group, and there is also the risk of unexpected events that could affect even the best of banks, regulators need to require banks to hold some capital.

Curiously, unfortunately, bank regulators, with the Basel Accord of 1988 introduced risk weighted capital requirements. These spelled out more risk more capital, less risk less capital. 

Though at first sight that might all sound quite logical, in terms of searching for more financial stability it makes no sense whatsoever, as what’s perceived as risky poses by just that fact alone less danger to the banks. It is what is perceived as safe than can cause banks to create excessive exposures, which if these later turn out risky could put a whole bank system in danger. 

To top it up it the risk weighting translates into allowing banks to leverage differently different assets, thereby producing different risk adjusted returns on equity than what would have been the case in the absence of this regulations, and so it introduced a serious distortion in the allocation of bank credit that is affecting the real economy.

Who could have nudged regulators to do so? Since being able to earn the highest risk adjusted returns on equity on what is perceived as safe sounds like a wet dream come true for bankers, I have my suspicions.

PS. Here an aide-mémoire on the principal mistakes of risk weighted capital requirements

If one were to construe a systemic risk that could bring bank systems down, this is one way

First: Make capital requirements for banks based on perceived risk. More risk more capital, less risk less capital. That would allow banks to leverage more with The Safe than with The Risky. That would allow banks to earn higher risk adjusted returns on equity lending to The Safe than when lending to The Risky.

Second: Allow banks to use their own risk models to decide what is risky and what is safe and therefore how much capital it needs. Alternatively allow some very few human fallible credit rating agencies to decide what is safe and what is risky.

Third: Sit down and wait for banks lending too much against too little capital to The Safe, like sovereigns, the AAArisktocracy and mortgages; within an economy weakened by too little lending to The Risky, like to SMEs and entrepreneurs.

But, oops, hold it there! Someone already did that! I think it was the Basel Committee for Banking Supervision.