Wednesday, January 23, 2013

Liquidity and Transparency in Bank Risk Management. By Lev Ratnovski

Liquidity and Transparency in Bank Risk Management. By Lev Ratnovski
IMF Working Paper No. 13/16
http://www.imf.org/external/pubs/cat/longres.aspx?sk=40258.0

Summary: Banks may be unable to refinance short-term liabilities in case of solvency concerns. To manage this risk, banks can accumulate a buffer of liquid assets, or strengthen transparency to communicate solvency. While a liquidity buffer provides complete insurance against small shocks, transparency covers also large shocks but imperfectly. Due to leverage, an unregulated bank may choose insufficient liquidity buffers and transparency. The regulatory response is constained: while liquidity buffers can be imposed, transparency is not verifiable. Moreover, liquidity requirements can compromise banks' transparency choices, and increase refinancing risk. To be effective, liquidity requirements should be complemented by measures that increase bank incentives to adopt transparency.

Conclusion

The paper emphasized that both liquidity buffers and — in a novel perspective — bank transparency (better communication that enhances access to external refinancing) are important in bank liquidity risk management. In a liquidity event, a liquidity buffer can cover small withdrawals with certainty. Transparency allows the bank to refinance large withdrawals too, but it is not always effective. Banks may choose insufficient liquidity and transparency; the optimal policy response is constrained by the fact that bank transparency is not verifiable.

The paper offers important policy implications, particularly for the ongoing liquidity regulation debate. The results caution that the focus on liquidity requirements needs to be complemented by measures to improve bank transparency and access to market refinancing. Without such measures, liquidity requirements may not achieve the full potential of improvements in social welfare, and under some conditions may have unintended effects. We also highlight the need for better corporate governance as a way to improve bank transparency, and the scope to use net stable funding ratios to increase the effectiveness of liquidity requirements.

Q&A session with a Japanese citizen on contemporary politics

The comments of a Japanese citizens on politics and our questions:
[...]

- what do supporters of Tokyo's governor say about him? I always read comments against him, but he wins the elections, so there are lots of (silent) supporters.

our present PM Shinzo Abe is supported by citizens pretty well so far. he showed a policy for economics called "Abenomics" lately. then even though nothing's done yet just show it to us, stock prises' been rising and rising, curency rate's been much better (Yen got too much strong and international exporting companies as even Sony, Panasonic or Toyota were getting big loss for these 3 years).

also, his strategy of international is evaluated. former government always compromised to Chinese or Korean's unreasonable accusations just for economical reasons. but he is trying to build a strong relationships between South-east Asian countries, Australia, India and Russia. especially SE Asian countries welcome this because they've been threatened by Chinese forces, they've actually wanted Japan to have leadership against China.
he seems doing very fine now.

i have to say many of japanese medias have big problems... many people in medias are kind of "traitor". they pick up "noisy minority" and show it just like the majority to give Japan bad names to the world... it's fine if their opinions are to make things better, but just critisise. it will be too long if i explain this.

Question: what do supporters of nuclear arms say? I always read assurances about the Japanese not wanting the A-bomb, but from time to time some politician says that Japan is considering protecting herself (against North Korea and China)

i think there are not many supporters of nuclear arms. some polititians and scholars are saying to discuss it. because almost all of Japanese has a sort of allergy for nuclear weapons (it comes from trauma of WW2) and even discussions are taboo. indeed, even though we have been aimed by Chinese and maybe Korean A-missiles. so they are claiming to get out of trauma now. also they say even only discussion will be a detterent to the countries. (personally i agree with them, we don't need to have it, but it's nonsense not to even talk). recently it seems peoples who agree with it has been increasing.

PM Abe is trying to have a good relationship between US, but on the other hand, trying to protect ourself with proper forces. and it's generally supported by majority (at least it seems so to me). almost all of people likes US better than China in politics, but lately people started to think stand by ourselvs.
actually now is the turning point of Japan after WW2 i think...

if you want to understand how Japanese are, it might be important to understand "Shinto". it's a domestic thoughts/philosophy of Japan, quite religious but not religion. it says we have 8 million gods in our land - god of fire, god of wood, god of sea, god of marrige, god of traffic, god of study... so we should thank to everything, be good and respect others. it is the base of moral of Japanese, we are brought up with it by our parents. it's easy to accept other religion for Shinto, because any god or buddha of other religions can be one of the god. (Japanese buddism are a lot influenced and mixed with Shinto). our Tenno (emperor) is regarded as offspring of the god. http://en.wikipedia.org/wiki/Shinto

last year, South Korean president insulted Tenno, then all of Japanese citizens got angry, (i have never seen such angry Japanese ever!), i understood Tenno is the symbol of this country and Shinto at the moment.

sorry it's getting out of focus.

[...]

take care,

aki

Sunday, January 20, 2013

Are there clear affinities of Communism with Fascism?

Political philosopher John N. Gray on liberals' totalitarian temptation
Times Literary Supplement, Jan 02, 2013:

One of the features that distinguished Bolshevism from Tsarism was the insistence of Lenin and his followers on the need for a complete overhaul of society. Old-fashioned despots may modernize in piecemeal fashion if doing so seems necessary to maintain their power, but they do not aim at remaking society on a new model, still less at fashioning a new type of humanity. Communist regimes engaged in mass killing in order to achieve these transformations, and paradoxically it is this essentially totalitarian ambition that has appealed to liberals. Here as elsewhere, the commonplace distinction between utopianism and meliorism is less than fundamental. In its predominant forms, liberalism has been in recent times a version of the religion of humanity, and with rare exceptions— [Bertrand] Russell is one of the few that come to mind—liberals have seen the Communist experiment as a hyperbolic expression of their own project of improvement; if the experiment failed, its casualties were incurred for the sake of a progressive cause. To think otherwise—to admit the possibility that the millions who were judged to be less than fully human suffered and died for nothing—would be to question the idea that history is a story of continuing human advance, which for liberals today is an article of faith. That is why, despite all evidence to the contrary, so many of them continue to deny Communism's clear affinities with Fascism. Blindness to the true nature of Communism is an inability to accept that radical evil can come from the pursuit of progress.

John Gray is professor emeritus at the London School of Economics

Friday, January 18, 2013

Relying on financial models to set loan-loss reserves could hurt small banks and their customers

Bank Reform Takes One Flawed Step Forward. By Eugene A Ludwig and Paul A Volcker
Relying on financial models to set loan-loss reserves could hurt small banks and their customers.The Wall Street Journal
January 18, 2013, on page A15
http://online.wsj.com/article/SB10001424127887323468604578245421482083936.html

The Financial Accounting Standards Board finished 2012 on a high note, issuing a draft new rule to change the way banks build reserves against losses on loans. It is a major step forward from our current system. Still, FASB's proposed rule is flawed conceptually and in its application, and in itself it cannot achieve the international consistency that is desirable.

The good news: The board recognizes that its existing rules on the Allocation for Loan and Lease Losses may have worsened the 2008 financial crisis. These rules limited bank reserves to those that are already "incurred." This all but ensures that banks' rainy day funds will be too skinny, particularly in periods when credit markets are under stress. Worse yet, limiting loss estimates to events that have already occurred makes the allowance for loan and lease losses procyclical—reported earnings are too high in good times and losses hit hardest in bad times.

The FASB's draft proposal to reform these rules incorporates what is known as the "Current Expected Credit Loss Model." It is meant to expand reserves to reflect losses that are expected over the life of the loan, and it is a big improvement over the existing regime. But as it stands, the proposal could create risks for the financial system.

In an effort to ensure that everything is "auditable," the proposal ties the loan-loss reserve to what the accounting profession will decide is an acceptable "model." While the proposal is well-intentioned and makes clear that various models can be used, this model-driven approach is dangerous.

Modeling by its very nature is backward looking. It would push bankers to address only risks that are readily and historically quantifiable. It would discourage them from acting on forward-looking but less well-defined risks, like broader economic trends, that can be just as damaging.

A focus on modeling also unnecessarily favors large institutions. Banks with smaller loan books and more hands-on experience have some advantages when setting their reserves. But what community bank has a sufficient data set, a team of "modelers," or complex statistical analysis software on hand? The FASB proposal could hurt small banks and their customers.

That is not to say that some quantitative models have no place in establishing reserves. Some institutions may choose to use models, even slavishly. But this should not be a requirement, unless experience and judgment lead the bank's prudential regulator to think otherwise.

There are other ways to go about setting reserves. A bank can follow a rigorous, board-approved process, for example by drawing on well-documented reviews from its CEO, chief credit officer, and the credit committee of the board of directors. The assumptions used in these judgmental reviews can be audited by regulators and outside accountants, and implementation of the process itself can be audited. This approach can be honest and effective without relying entirely on mathematical models.

The FASB proposal may have at least one smaller-scale but serious flaw. Although the text is unclear, the proposal appears to base reserves on cash flows above all other credit factors, such as collateral. We understand that this is not what was intended, and that "cash flows" is meant to include monies derived from collateral liquidation too. If this is the case, the language should be clarified.

While we do believe it is critical to allow bankers to use their expertise in estimating losses for reserve purposes, we also believe it is critical that they disclose to regulators and the public both the methodology they employ to set reserves and the quarter-by-quarter decisions on reserves they actually make. That way investors can follow a bank's net revenue picture before and after loan reserves are set aside, and the methods they use to establish these reserves.

It would be highly desirable to have one international rule in this area, as with accounting standards in the financial services area generally. The International Accounting Standards Board is preparing a new standard for bank reserves. Both the FASB and the IASB approaches will be open to comment. The goal should be to achieve consistency along the broad lines opened by the FASB proposal.

In sum, the FASB's draft proposal is a positive step. But it will require revision so that small banks are not put at a disadvantage, and so that all banks can employ rational and effective methods to set aside their rainy day funds.

Mr. Ludwig, CEO of Promontory Financial Group, was comptroller of the currency from 1993 to 1998. Mr. Volcker was chairman of the Federal Reserve System from 1979-1987.

Monday, January 14, 2013

Incentive Audits: A New Approach to Financial Regulation

Incentive Audits: A New Approach to Financial Regulation. By Martin Cihak
World Bank Blogs, Jan 14, 2012
http://blogs.worldbank.org/allaboutfinance/incentive-audits-a-new-approach-to-financial-regulation

Economists often disagree on policy advice. If you ask 10 of them, you may get 10 different answers, or more. But from time to time, economists actually do agree. One such area of agreement relates to the role of incentives in the financial sector. A large and growing literature points to misaligned incentives playing a key role in the run-up to the global financial crisis. In a recent paper, co-authored with Barry Johnston, we propose to address the incentive breakdowns head-on by performing “incentive audits”.

The global financial crisis has highlighted the destructive impact of misaligned incentives in the financial sector. This includes bank managers’ incentives to boost short-term profits and create banks that are “too big to fail”, regulators’ incentives to forebear and withhold information from other regulators in stressful times, credit rating agencies’ incentives to keep issuing high ratings for subprime assets, and so on. Of course, incentives play an important role in many economic activities, not just the financial ones. But nowhere are they as prominent, and nowhere can their impact get as damaging as in the financial sector, due to its leverage, interconnectedness, and systemic importance. A large body of recent literature examines these issues in depth. For example, Caprio, Demirgüç-Kunt and Kane (2008) show that incentive conflicts explain how securitization went wrong and why credit ratings proved so inaccurate; Barth, Caprio and Levine (2012) highlight incentive failures in regulatory authorities. Incentives were not the only factor – they were accentuated by problems of insufficient information, herd behavior, and so on – but breakdowns in incentives had clearly a central role in the run-up to the crisis.

Despite the broad agreement among economists, the focus of financial sector regulation and supervision has often been on other things, leaving incentives to be addressed indirectly at best. At the global level, substantial efforts have been devoted to issues such as calibrating risk weights to calculate banks’ minimum capital requirements. Numerous outside observers have called for more concerted efforts to address the incentive breakdowns that led to the crisis (e.g., LSE 2010; Squam Lake Working Group 2010; and Beck 2010). At the individual country level, regulatory changes have taken place in recent years, but in-depth analyses show a major scope to better address incentive problems (see Čihák, Demirgüç-Kunt, Martínez Pería, and Mohseni 2012, based on data from the World Bank’s 2011–12 Bank Regulation and Supervision Survey). The World Bank’s 2013 Global Financial Development Report also called for more vigorous steps to address incentive issues, rather than leaving them as an afterthought.

In a recent paper, joint with Barry Johnston, we propose a pragmatic approach to re-orienting financial regulation to have at its core addressing incentives on an ongoing basis. The paper, which of course represents our views and not necessarily those of the World Bank, proposes “incentive audits” as a tool to help in identifying incentive misalignments in the financial sector. The paper is an extended version of an earlier piece recognized by the International Centre for Financial Regulation and the Financial Times among top essays on “what good regulation should look like“.
The incentive audit approach aims to address systemic risk buildup directly at its source. While traditional, regulation-based approaches focus on building up capital and liquidity buffers in financial institutions, the incentive-based approach seeks to identify and correct distortions and frictions that contribute to the buildup of excessive risk. It goes beyond the symptoms to their source. For example, the buildup of massive risk concentrations before the crisis could be attributed to information gaps that prevented the assessment of exposures and network risks, to incentive failures in the monitoring of the risks due to conflicts of interest and moral hazard, and to regulatory incentives that encouraged risk transfers. Building up buffers can help, but to address systemic risk effectively, it is crucial to tackle the underlying incentives that give rise to it. Focusing on increasingly complex capital and liquidity charges has the danger of creating incentives for circumvention, and can run into limited capacity for implementation and enforcement. In the incentive-based approach, more emphasis is given on methods for identifying incentive failures resulting in systemic risk. The remedies go beyond narrowly defined prudential tools and include also other measures, such as elimination of tax incentives that encourage excessive borrowing.

What would an incentive audit involve? It would entail an analysis of structural and organizational features that affect incentives to conduct and monitor financial transactions. It would comprise a sequenced set of analyses proceeding from higher level questions on market structure, government safety nets and legal and regulatory framework, to progressively more detailed questions aimed at identifying the incentives that motivate and guide financial decisions (Figure 1). This sequenced approach enables drilling down and identifying factors leading to market failures and excessive risk taking.
Figure 1. The Design of Incentive Audits
The incentive audit is a novel concept, but analysis of incentives has been done. One example is the report of a parliamentary commission examining the roots of the Icelandic financial crisis. The report (Special Investigation Commission 2010) notes the rapid growth of Icelandic banks as a major contributor of the crisis. It documents the underlying “strong incentives for growth”, which included the banks’ incentive schemes and the high leverage of their owners. It maps out the network of conflicting interests of the key owners, who were also the largest debtors of these banks. Another example of work that is close to an incentive audit is the analysis by Calomiris (2011). He examines incentive failures in the U.S. financial market, and identifies a subset of reforms that are “incentive-robust,” that is, they improve market incentives, market discipline, and incentives of regulators and supervisors by making rules and their enforcement more transparent, increasing credibility and accountability. These examples illustrate that an incentive audit is doable and useful.

Who would perform incentive audits? Our paper offers some suggestions. The governance of the institution performing the audits is important--its own incentives to act need to be appropriately aligned. Also, to be effective, incentive audits would have to be performed regularly, and their outcomes would have to be used to address incentive issues by adapting regulation, supervision, and other measures. In Iceland, the analysis of incentives was a part of a “post mortem” on the crisis, but it is feasible to do such analysis ex-ante. Indeed, much of the information used in the above mentioned report was available even before the crisis. The Commission had modest resources, illustrating that incentive audits need not be very costly or overly complicated to perform. As the Commission’s report points out, “it should have been clear to the supervisory authorities that such incentives existed and that there was reason for concern,” but supervisors “did not keep up with the rapid changes in the banks’ practices”. Instead of examining the reasons for the changes, the supervisors took comfort in banks’ capital ratios exceeding a statutory minimum and appearing robust in narrowly-defined stress tests (Čihák and Ong 2010).

An incentive audit needs to be complemented by other tools. It needs to be combined with quantitative risk assessment and with assessments of the regulatory, supervisory, and crisis preparedness frameworks. The audit provides an organizing framework, putting the identification and correction of incentive misalignments front and center.

Incentive audits are not a panacea, of course. Financial markets suffer from issues that go beyond misaligned incentives, such as limited rationality, herd behavior and so on. But better identifying and addressing incentive misalignments is a key practical step, and the incentive audits can help.

References
Barth, James, Gerard Caprio, and Ross Levine. 2012. Guardians of Finance: Making Regulators Work for Us, MIT Press.
Beck, Thorsten (ed). 2010. Future of Banking. Centre for Economic Policy Research (CEPR). Published by vox.eu.
Caprio, Gerard, Asli Demirgüç-Kunt, and Edward J. Kane. 2010. “The 2007 Meltdown in Structured Securitization: Searching for Lessons, not Scapegoats.” World Bank Research Observer 25 (1): 125-55.
Calomiris, Charles. 2011. Incentive‐Robust Financial Reform, Cato Journal  31 (3): 561–589.
Čihák, Martin, Asli Demirgüç-Kunt, Maria Soledad Martínez Pería, and Amin Mohseni. 2012. “Banking Regulation and Supervision around the World: Crisis Update.” Policy Research Working Paper 6286, World Bank, Washington, DC.
Čihák, Martin, Asli Demirgüç-Kunt, and R. Barry Johnston. 2013. “Incentive Audits: A New Approach to Financial Regulation.” Policy Research Working Paper 6308, World Bank, Washington, DC.
Čihák, Martin, and Li Lian Ong. 2010. “Of Runes and Sagas: Perspectives on Liquidity Stress Testing Using an Iceland Example.” Working Paper 10/156, IMF, Washington, DC.
London School of Economics. 2010. The Future of Finance: The LSE Report. London: London School of Economics.
Special Investigation Commission. 2010. Report on the collapse of the three main banks in Iceland. Icelandic Parliament, April 12.
Squam Lake Working Group. 2010. Regulation of Executive Compensation in Financial Services. Squam Lake Working Group on Financial Regulation
World Bank. 2012. Global Financial Development Report 2013: Rethinking the Role of the State in Finance, World Bank, Washington DC.

Thursday, January 10, 2013

BCBS Principles for effective risk data aggregation and risk reporting

BCBS Principles for effective risk data aggregation and risk reporting
January 2013
http://www.bis.org/publ/bcbs239.htm

The financial crisis that began in 2007 revealed that many banks, including global systemically important banks (G-SIBs), were unable to aggregate risk exposures and identify concentrations fully, quickly and accurately. This meant that banks' ability to take risk decisions in a timely fashion was seriously impaired with wide-ranging consequences for the banks themselves and for the stability of the financial system as a whole.

The Basel Committee's Principles for effective risk data aggregation will strengthen banks' risk data aggregation capabilities and internal risk reporting practices. Implementation of the principles will strengthen risk management at banks - in particular, G-SIBs - thereby enhancing their ability to cope with stress and crisis situations.

An earlier version of the principles published today was issued for consultation in June 2012. The Committee wishes to thank those who provided feedback and comments as these were instrumental in revising and finalising the principles.

Objectives (excerpted):

The adoption of these Principles will enable fundamental improvements to the management of banks. The Principles are expected to support a bank’s efforts to:

• Enhance the infrastructure for reporting key information, particularly that used by the board and senior management to identify, monitor and manage risks;
• Improve the decision-making process throughout the banking organisation;
• Enhance the management of information across legal entities, while facilitating a comprehensive assessment of risk exposures at the global consolidated level;
• Reduce the probability and severity of losses resulting from risk management weaknesses;
• Improve the speed at which information is available and hence decisions can be made; and
• Improve the organisation’s quality of strategic planning and the ability to manage the risk of new products and services.

Tuesday, January 8, 2013

Capital Requirements for Over-the-Counter Derivatives Central Counterparties

Capital Requirements for Over-the-Counter Derivatives Central Counterparties. By Li Lin and Jay Surti
IMF Working Paper No. 13/3, January 08, 2013
http://www.imf.org/external/pubs/cat/longres.aspx?sk=40220.0

Summary: The central counterparties dominating the market for the clearing of over-the-counter interest rate and credit derivatives are globally systemic. Employing methodologies similar to the calculation of banks’ capital requirements against trading book exposures, this paper assesses the sensitivity of central counterparties’ required risk buffers, or capital requirements, to a range of model inputs. We find them to be highly sensitive to whether key model parameters are calibrated on a point-in-time versus stress-period basis, whether the risk tolerance metric adequately captures tail events, and the ability—or lack thereof—to define exposures on the basis of netting sets spanning multiple risk factors. Our results suggest that there are considerable benefits from having prudential authorities adopt a more prescriptive approach to for central counterparties’ risk buffers, in line with recent enhancements to the capital regime for banks.

ISBN: 9781475535501
ISSN: 2227-8885
Stock No: WPIEA2013003

Sunday, January 6, 2013

Group of Governors and Heads of Supervision endorses revised liquidity standard for banks

Group of Governors and Heads of Supervision endorses revised liquidity standard for banks
January 6, 2013
http://www.bis.org/press/p130106.htm

The Group of Governors and Heads of Supervision (GHOS), the oversight body of the Basel Committee on Banking Supervision, met today to consider the Basel Committee's amendments to the Liquidity Coverage Ratio (LCR) as a minimum standard. It unanimously endorsed them. Today's agreement is a clear commitment to ensure that banks hold sufficient liquid assets to prevent central banks becoming the "lender of first resort".

The GHOS also endorsed a new Charter for the Committee, and discussed the Committee's medium-term work agenda.

The GHOS reaffirmed the LCR as an essential component of the Basel III reforms. It endorsed a package of amendments to the formulation of the LCR announced in 2010. The package has four elements: revisions to the definition of high quality liquid assets (HQLA) and net cash outflows; a timetable for phase-in of the standard; a reaffirmation of the usability of the stock of liquid assets in periods of stress, including during the transition period; and an agreement for the Basel Committee to conduct further work on the interaction between the LCR and the provision of central bank facilities.

A summary description of the agreed LCR is in Annex 1. The changes to the definition of the LCR, developed and agreed by the Basel Committee over the past two years, include an expansion in the range of assets eligible as HQLA and some refinements to the assumed inflow and outflow rates to better reflect actual experience in times of stress. These changes are set out in Annex 2. The full text incorporating these changes will be published on Monday 7 January.

The GHOS agreed that the LCR should be subject to phase-in arrangements which align with those that apply to the Basel III capital adequacy requirements. Specifically, the LCR will be introduced as planned on 1 January 2015, but the minimum requirement will begin at 60%, rising in equal annual steps of 10 percentage points to reach 100% on 1 January 2019. This graduated approach is designed to ensure that the LCR can be introduced without disruption to the orderly strengthening of banking systems or the ongoing financing of economic activity.

The GHOS agreed that, during periods of stress it would be entirely appropriate for banks to use their stock of HQLA, thereby falling below the minimum. Moreover, it is the responsibility of bank supervisors to give guidance on usability according to circumstances.

The GHOS also agreed today that, since deposits with central banks are the most - indeed, in some cases, the only - reliable form of liquidity, the interaction between the LCR and the provision of central bank facilities is critically important. The Committee will therefore continue to work on this issue over the next year.

GHOS members endorsed two other areas of further analysis. First, the Committee will continue to develop disclosure requirements for bank liquidity and funding profiles. Second, the Committee will continue to explore the use of market-based indicators of liquidity to supplement the existing measures based on asset classes and credit ratings.

The GHOS discussed and endorsed the Basel Committee's medium-term work agenda. Following the successful agreement of the LCR, the Committee will now press ahead with the review of the Net Stable Funding Ratio. This is a crucial component in the new framework, extending the scope of international agreement to the structure of banks' debt liabilities. This will be a priority for the Basel Committee over the next two years.

Over the next few years, the Basel Committee will also: complete the overhaul of the policy framework currently under way; continue to strengthen the peer review programme established in 2012 to monitor the implementation of reforms in individual jurisdictions; and monitor the impact of, and industry response to, recent and proposed regulatory reforms. During 2012 the Committee has been examining the comparability of model-based internal risk weightings and considering the appropriate balance between the simplicity, comparability and risk sensitivity of the regulatory framework. The GHOS encouraged continuation of this work in 2013 as a matter of priority. Furthermore, the GHOS supported the Committee's intention to promote effective macro- and microprudential supervision.

The GHOS also endorsed a new Charter for the Basel Committee. The new Charter sets out the Committee's objectives and key operating modalities, and is designed to improve understanding of the Committee's activities and decision-making processes.

Finally, the GHOS reiterated the importance of full, timely and consistent implementation of Basel III standards.

Mervyn King, Chairman of the GHOS and Governor of the Bank of England, said, "The Liquidity Coverage Ratio is a key component of the Basel III framework. The agreement reached today is a very significant achievement. For the first time in regulatory history, we have a truly global minimum standard for bank liquidity. Importantly, introducing a phased timetable for the introduction of the LCR, and reaffirming that a bank's stock of liquid assets are usable in times of stress, will ensure that the new liquidity standard will in no way hinder the ability of the global banking system to finance a recovery."

Stefan Ingves, Chairman of the Basel Committee and Governor of the Sveriges Riksbank, noted that "the amendments to the LCR are designed to ensure that it provides a sound minimum standard for bank liquidity - a standard that reflects actual experience during times of stress. The completion of this work will allow the Basel Committee to turn its attention to refining the other component of the new global liquidity standards, the Net Stable Funding Ratio, which remains subject to an observation period ahead of its implementation in 2018."
Listen to the press conference

To listen to introductory remarks from GHOS Chairman Mervyn King and the Basel Committee on Banking Supervision's Chairman Stefan Ingves as well as the question and answer session which followed, please dial +41 58 262 07 00 and enter the following access code: 2641523333.

 
Translations in German, Spanish, French and Italian will be published soon.

Saturday, January 5, 2013

We, Too, Are Violent Animals. By Jane Goodall, Richard Wrangham, and Dale Peterson

We, Too, Are Violent Animals. By Jane Goodall, Richard Wrangham, and Dale Peterson
Those who doubt that human aggression is an evolved trait should spend more time with chimpanzees and wolvesThe Wall Street Journal,January 5, 2013, on page C3
http://online.wsj.com/article/SB10001424127887323874204578220002834225378.html

Where does human savagery come from? The animal behaviorist Marc Bekoff, writing in Psychology Today after last month's awful events in Newtown, Conn., echoed a common view: It can't possibly come from nature or evolution. Harsh aggression, he wrote, is "extremely rare" in nonhuman animals, while violence is merely an odd feature of our own species, produced by a few wicked people. If only we could "rewild our hearts," he concluded, we might harness our "inborn goodness and optimism" and thereby return to our "nice, kind, compassionate, empathic" original selves.

If only if it were that simple. Calm and cooperative behavior indeed predominates in most species, but the idea that human aggression is qualitatively different from that of every other species is wrong.

The latest report from the research site that one of us (Jane Goodall) directs in Tanzania gives a quick sense of what a scientist who studies chimpanzees actually sees: "Ferdinand [the alpha male] is rather a brutal ruler, in that he tends to use his teeth rather a lot…a number of the males now have scars on their backs from being nicked or gashed by his canines…The politics in Mitumba [a second chimpanzee community] have also been bad. If we recall that: they all killed alpha-male Vincent when he reappeared injured; then Rudi as his successor probably killed up-and-coming young Ebony to stop him helping his older brother Edgar in challenging him…but to no avail, as Edgar eventually toppled him anyway."

A 2006 paper reviewed evidence from five separate chimpanzee populations in Africa, groups that have all been scientifically monitored for many years. The average "conservatively estimated risk of violent death" was 271 per 100,000 individuals per year. If that seems like a low rate, consider that a chimpanzee's social circle is limited to about 50 friends and close acquaintances. This means that chimpanzees can expect a member of their circle to be murdered once every seven years. Such a rate of violence would be intolerable in human society.

The violence among chimpanzees is impressively humanlike in several ways. Consider primitive human warfare, which has been well documented around the world. Groups of hunter-gatherers who come into contact with militarily superior groups of farmers rapidly abandon war, but where power is more equal, the hostility between societies that speak different languages is almost endless. Under those conditions, hunter-gatherers are remarkably similar to chimpanzees: Killings are mostly carried out by males, the killers tend to act in small gangs attacking vulnerable individuals, and every adult male in the society readily participates. Moreover, with hunter-gatherers as with chimpanzees, the ordinary response to encountering strangers who are vulnerable is to attack them.

Most animals do not exhibit this striking constellation of behaviors, but chimpanzees and humans are not the only species that form coalitions for killing. Other animals that use this strategy to kill their own species include group-living carnivores such as lions, spotted hyenas and wolves. The resulting mortality rate can be high: Among wolves, up to 40% of adults die from attacks by other packs.

Killing among these carnivores shows that ape-sized brains and grasping hands do not account for this unusual violent behavior. Two other features appear to be critical: variable group size and group-held territory. Variable group size means that lone individuals sometimes encounter small, vulnerable parties of neighbors. Having group territory means that by killing neighbors, the group can expand its territory to find extra resources that promote better breeding. In these circumstances, killing makes evolutionary sense—in humans as in chimpanzees and some carnivores.

What makes humans special is not our occasional propensity to kill strangers when we think we can do so safely. Our unique capacity is our skill at engineering peace. Within societies of hunter-gatherers (though only rarely between them), neighboring groups use peacemaking ceremonies to ensure that most of their interactions are friendly. In state-level societies, the state works to maintain a monopoly on violence. Though easily misused in the service of those who govern, the effect is benign when used to quell violence among the governed.

Under everyday conditions, humans are a delightfully peaceful and friendly species. But when tensions mount between groups of ordinary people or in the mind of an unstable individual, emotion can lead to deadly events. There but for the grace of fortune, circumstance and effective social institutions go you and I. Instead of constructing a feel-good fantasy about the innate goodness of most people and all animals, we should strive to better understand ourselves, the good parts along with the bad.

—Ms. Goodall has directed the scientific study of chimpanzee behavior at Gombe Stream National Park in Tanzania since 1960. Mr. Wrangham is the Ruth Moore Professor of Biological Anthropology at Harvard University. Mr. Peterson is the author of "Jane Goodall: The Woman Who Redefined Man."

Wednesday, January 2, 2013

Gross inflows, financial booms and crises. By Cesar Calderon and Megumi Kubota

Gross inflows, financial booms and crises. By Cesar Calderon and Megumi Kubota
World Bank Blogs, Wed, Jan 2nd, 2013
http://blogs.worldbank.org/allaboutfinance/gross-inflows-financial-booms-and-crises

Favorable growth prospects and higher asset returns in emerging market economies have been led to a sharp increase in flows of foreign finance in recent years. Massive inflows to the domestic economy may fuel activity in financial markets and — if not properly managed — booms in credit and asset prices may arise (Reinhart and Reinhart, 2009; Mendoza and Terrones, 2008, 2012). In turn, the expansion of credit and overvalued asset prices have been good predictors not only of the current financial crises but also past ones (Schularick and Taylor, 2012; Gourinchas and Obstfeld, 2012).

In a recent paper, Megumi Kubota and I synthesized both strands of the empirical literature and examine whether gross private inflows can predict the incidence of credit booms — and, especially, those financial booms that end up in a systemic banking crises.1  More specifically, our paper finds that surges gross private capital inflows can help explain the incidence of subsequent credit booms — and, especially those financial booms that are followed by systemic banking crises. When looking at the predictive power of capital flows, we argue that not all types of flows behave alike. We find that gross private other investment (OI) inflows robustly predict the incidence of credit booms — while portfolio investment (PI) has no systematic link and FDI  surges will at best mitigate the probability of credit booms. Consequently, gross private OI inflows are a good predictor of credit booms.

Our paper evaluates the linkages between surges in gross private capital inflows and the incidence of booms in credit markets. In contrast to previous research papers in this literature: (i) we use data on gross inflows rather than net inflows; and, (ii) we use quarterly data for 71 countries from 1975q1 and 2010q4 instead of annual frequency. In this context, we argue that the dynamic behavior of capital flows and credit markets along the business cycle is better captured using quarterly data.2 As a result, we can evaluate more precisely the impact on credit booms of (the overall amount and the different types of) financing flows coming from abroad. On the other hand, we are more interested the impact on credit markets of investment inflows coming from foreign investors. Using information on net inflows — especially since the mid-1990s for emerging markets — would not allow us to appropriately differentiate the behavior of foreign investors from that of domestic ones and it may provide misleading inference on the amount of capital supplied from abroad (Forbes and Warnock, 2012).3

Credit booms are identified using two different methodologies: (a) Mendoza and Terrones (2008), and (b) Gourinchas, Valdés and Landarretche (2001) — also applied in Barajas, Dell’Ariccia, and Levchenko (2009). Moreover, we look deeper into credit boom episodes and differentiate bad booms from those that booms that may come along with a soft landing of the economy. In general, the literature finds that credit booms are not always followed by a systemic banking crisis — see Tornell and Westermann (2002) and Barajas et al. (2009). For instance, Calderón and Servén (2011) find that only 4.6 percent of lending booms may end up in a full-blown banking crisis for advanced countries whereas its probability is 8.3 and 4.6 percent for Latin America and the Caribbean (LAC) and non-LAC emerging markets. Those credit booms that end up in an episodes of systemic banking crisis are denoted as “bad” credit booms — see Barajas et al. (2009).

Our panel Probit regression shows that gross private capital inflows are a good predictor of the incidence of credit booms. This result is robust with respect to any sample of countries, any criteria of credit booms and any set of control variables. Next, the probability of credit booms is higher when the surges in capital flows are driven by gross OI inflows and, to a lesser extent, by increases in gross portfolio investment (FPI) inflows. Surges of gross foreign direct investment (FDI) inflows would, at best, reduce the likelihood of credit booms. The main conduit is gross OI bank inflows10 when we unbundle the effect of gross private OI inflows on credit booms. Third, we find that capital flows do explain the incidence of bad credit booms and that the overall impact is significantly positive and greater than the impact on overall credit booms.

Finally, the likelihood of bad credit booms is greater when surges in capital inflows are driven by increases in OI inflows. As a result, the overall positive impact of gross OI inflows significantly predicts an increase in credit booms although the evidence on the impact of gross FDI and FPI inflows is somewhat mixed. So far, the literature has shown that increasing leverage in the financial system and overvalued currencies are the best predictors of financial crisis (Schularick and Taylor, 2012; Gourinchas and Obstfeld, 2012). Moreover, our findings suggest that surges in capital flows (especially, rising cross-border banking flows) are also a good indicator of future financial turmoil.

References
Barajas, A., G. Dell’Ariccia, and A. Levchenko, 2009.  “Credit Booms: the Good, the Bad, and the Ugly.” Washington, DC: IMF, manuscript
Calderón, C., and M. Kubota, 2012. “Gross Inflows Gone Wild: Gross Capital inflows, Credit Booms and Crises.” The World Bank Policy Research Working Paper 6270, December.
Calderón, C., and M. Kubota, 2012. “Sudden stops: Are global and local investors alike?” Journal of International Economics 89(1), 122-142
Calderón, C., and L. Servén, 2011. “Macro-Prudential Policies over the Cycle in Latin America.” Washington, DC: The World Bank, manuscript
Forbes, K.J., and F.E. Warnock, 2012. “Capital Flow Waves: Surges, Stops, Flight, and Retrenchment.” Journal of International Economics 88(2), 235-251
Gourinchas, P.O., and M. Obstfeld, 2012. “Stories of the Twentieth Century for the Twenty-First.” American Economic Journal: Macroeconomics 4(1), 226-265
Gourinchas, P.O., R. Valdes, and O. Landerretche, 2001. “Lending Booms: Latin America and the World.” Economia, Spring Issue, 47-99.
Mendoza, E.G., and M.E. Terrones, 2008. “An anatomy of credit booms: Evidence from macro aggregates and micro data.” NBER Working Paper 14049, May
Mendoza, E.G. and M.E. Terrones, 2012. “An Anatomy of Credit Booms and their Demise,” NBER Working Paper 18379, September.
Reinhart, C.M., and V. Reinhart, 2009. “Capital Flow Bonanzas: An Encompassing View of the Past and Present.” In: Frankel, J.A., and C. Pissarides, Eds., NBER International Seminar on Macroeconomics 2008. Chicago, IL: University of Chicago Press for NBER, pp. 9-62
Rothenberg, A., Warnock, F., 2011. “Sudden flight and true sudden stops.” Review of International Economics 19(3), 509-524.
Schularick, M., and A.M. Taylor, 2012. “Credit Booms Gone Bust: Monetary Policy, Leverage Cycles, and Financial Crises, 1870–2008.” American Economic Review 102(2), 1029–1061

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1 Read Working Paper.
2 Rothenberg and Warnock (2011), Forbes and Warnock (2012) and Calderón and Kubota (2012) already provide a more accurate analysis of extreme movement in (net and gross) capital flows using quarterly data.
3 The “two-way capital flows” phenomena cannot be identified using net inflows.