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knowledge Wharton today is speaking with
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Wharton Finance Professor Richard
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hurring about some crucial Bank
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regulations meant to be a first line of
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defense against another Global Financial
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meltdown in a nutshell uh various
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countries on behalf of their banks have
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lobbied hard to water down the strong
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protections that are supposed to prevent
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another financial crisis in the last
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crisis uh it was a lack of liquidity
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that led to uh the quickly escalating
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problems that we saw so the proposed
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Rules by the Bassel committee involve
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issues such as do banks have enough
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liquidity on hand uh in a form that they
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can get at fast in an emergency in other
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words how liquid are reserves and if the
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liquidity rules uh have to be relaxed
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which is what countries are lobbing for
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on behalf of their Banks then where does
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that leave us on the issue of too big to
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fail or lender of Last Resort issues so
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Professor hering you're also co-chair of
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something called the uh Financial the
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shadow Financial regulatory committee
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could you start by explaining briefly
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what that is and then tell us about the
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committee's views on on how there's this
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attempt to water down the new rules
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meant to prevent another meltdown uh the
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uh emphasis should be on the shadow part
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of the title because in fact it is
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completely non-official it's a group of
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U former Regulators uh academics um and
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lawyers who meet four times a year in
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Washington to review recent Financial
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proposals and ideas for new regulation
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uh each meeting is followed by a press
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conference where we release statements
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that uh reflect our group view on a
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particular proposal or a direction we
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think Financial regulation should take
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the one we're discussing today is an
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attempt by the Basel committee um which
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represents the uh supervisors of well
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now it's really the group of 20 uh and
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growing but the Key Bank supervisors in
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the world to set in place regulations
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that will prevent another banking crisis
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and I think you're right it stems from
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the perception that the cause of the
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last crisis was Ill liquidity um I would
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say that's more proximate than
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fundamental uh in fact the real problem
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was that many banks had very very weak
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asset positions and once the market
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found out it led to liquidity problems
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but nonetheless that's where it did show
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up
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so the response of the bosel committee
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was to establish two kinds of liquidity
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ratios um one of them is sort of Fallen
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by the wayside because people are very
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worried that it would reduce the role of
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banks in in intermediation altogether
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but the other which is called um the um
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short-term liquidity ratio is going
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forward uh it's been revised now at
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least twice and probably will will be
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revised again before it uh is written
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into law uh Governor banki has has said
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that the US will be revising it before
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it actually puts it into law the idea
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behind it was um I think fairly
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straightforward um if you're worried
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that Banks don't have enough liquidity
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then you define highquality liquidity
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that is liquidity that can be turned
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into cash for meeting uh demands for
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cash uh immediately at no cost relative
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to some scale variable and the scale
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variable they chose was the amount of
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outflow Bank might have to meet over a
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30-day stress period now at that level
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it's very clear and makes some kind of
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sense but the problem began when the
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politics started because the European
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banks in particular realized that they
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were going to be in a very difficult
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situation so high quality liquidity got
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expanded to include all sorts of things
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that I think we'd all be fairly
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skeptical were high quality at all
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Equity with a haircut um some corporate
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bonds even some mortgages things that
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are really not
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remotely uh sure liquidity in all Market
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situations and remember we're looking at
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a stress situation so it really doesn't
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make sense to use things that are
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normally pretty liquid so liquidity
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should be cash and maybe something a
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little bit well less than cash it's the
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maybe that gets you into trouble now in
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the us we'd probably say Cash Plus
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treasury bills but if you're a Greek
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bank that's really not going to be very
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helpful so uh the the committee I think
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came down to the view that cash was the
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one thing that we could measure with
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certainty that was always liquid in all
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situations and would give you an
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unambiguous indicator uh then there were
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problems with regard to the denominator
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how much stress do we want to think
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about do we want to worry about
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something as stressful as what happened
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during the crisis uh well that became a
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fudge at first they used fairly
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extraordinary uh pretty stressful uh
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assumptions to figure out that amount
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equal equal to what the last crisis
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produced it wasn't that clean it would
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have been nicer if they had actually had
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some empirical evidence to hang it on
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but it was it was a fairly extreme
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assumption and then they began to water
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it down and they watered it down by
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saying gee how much of each liability is
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likely to out to flow out and it went
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from something that was very stressful
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for something that was more or less an
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ordinary day it was really uh so it's
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turned out to to be a mishmash that that
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really doesn't help uh Outsiders
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understand the liquidity position of
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Banks and really is just another very
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confusing way to uh look at a bank
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because you can't compare it across
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Banks since you're using very different
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rules and it all depends on the
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composition of A bank's
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um assets and its liabilities um our
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suggestion was to make it something much
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more straightforward uh to use cash in
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the numerator and in the denominator
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make an assumption that the bank can't
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roll over any of its liabilities that's
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extreme but the answer to that uh
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fraction will tell you the number of
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days the bank could keep going without
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relying on the market now in the future
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Regulators may or may not want to put an
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a limit or a minimum on that number of
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days but at least in the meanwhile
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markets would be able to read it in a
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way that was comp purle across Banks
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[Music]
