Monday, September 27, 2010

Weekly Hurriyet Column: Basel III and Turkey

Below is the unedited version of my column for last week (although I am posting it at the publication date for archiving purposes, I am already a week late). You can read the final version at the Daily News website, but since I have been editing my columns myself on the Daily News website since March, you won't see much of a difference between the two. No cheesy title this time around; the title is as boring as they come.

As for the column, I have to say that the Econ. editors at HDN&ER specifically asked me to write on this topic. I was apprehensive at first, but I think it turned about quite a good idea: As I mention in the column, I have not seen anyone else, in the media or econosphere, talk about it.

I have quite a few addenda, enough to warrant a separate post, which I will add in tonight. So on to the column:

The biggest shocker of the crisis, at least according to your friendly neighborhood economist, is how the banks have managed to preserve themselves.

While hedge funds and private equity have lost a lot of blood in the last couple years, banks have more or less remained unscathed. Many of them are still “too big to fail” and still more like a casino, nothing like It’s a Wonderful Life’s Building & Loan - well, maybe nothing except the bank run. Moreover, those Monte Carlo activities are still mixed up with traditional retail banking, and bankers are once again earning huge bonuses.

As the public has more bloodlust against the banks than the spectators in the Coliseum, breaking them up would have been successful public relations for national governments. But I doubt that it would have been the perfect solution. Northern Rock failed not because it was colossal, but because it simply messed up its core business of managing a maturity mismatch. And the woes of the Spanish cajas suggest that a financial system with a lot of small banks is not always safer than one with a few large banks.

Here’s where Basel III comes in. To ensure that banks have enough capital when the next crisis hits, the capital requirement has been lifted to 7 percent of risk-weighted assets. This ratio will comprise of a conservation buffer of 2.5 percent to be drawn in times of stress, to be reached by 2019, in addition to the minimum common-equity target of 4.5 percent of assets, to be in place by 2015.

Even after disregarding the fact that the world will have seen a crisis or two by time the new ratios are in effect, it is debatable whether they will do the trick. Even a simple Turkey economist can see that capital ratios mean nothing if assets are overvalued, the risk agency problem remains at large, and shadow banking is still untackled. In fact, many respected economists, including Martin Wolf, argue that the new capital requirement is way too small. According to them, Basel III is unlikely to deliver a smaller and safer banking system.

But a more interesting question, at least from my own lens, is how the new rules will affect my own beloved country. To my dismay, my colleagues and Turkey economists have been dead-quiet on this question, which makes it impossible for me to plagiarize, or at least quote, them. At first glance, their silence makes sense: Not only are the rules implemented slowly, Turkish banks’ capital ratios are already above the buffer, thanks to prudential regulation after the 2001 crisis.

That argument fails to recognize the external financing costs of the new rules. Balance of Payments statistics have been pointing at a marked deterioration in the quality of external financing of late. Reining in the global banking sector would not only have a direct effect on long-term borrowing by Turkish banks, it could also impact, indirectly, foreign direct investment and portfolio flows. As a result, both the quantity and quality of external financing could be affected.

Then, standard textbook macroeconomics dictates that there needs to be either a quantity or price adjustment in the Turkish model of external finance-led growth. Simply put, either the economy would have to contract or the lira would have to depreciate.

You can argue that, with the rules not to be implemented until 2019, I am looking at the very long-run, when we will all be dead anyway. But my gut feeling is that investors are making too much of this long timeline: Market pressure could easily push the banks to the new targets in the next couple of years.

I am aware that this is not the consensus opinion, either for Turkey or the world economy. But it is much easier to make money with contrarian opinions.

Emre Deliveli is a freelance consultant and columnist for Hurriyet Daily News & Economic Review and Forbes as well as a contributor to Roubini Global Economics. Read his economics blog at

1 comment:

Blogger said...

eToro is the ultimate forex trading platform for beginning and full-time traders.