Imagine three places, Conservaville, Prosperville and Leverageville. In Conservaville there is only one bank with $1,000 of capital and it does not lend any of it. The customers are happy because they have a safe place to keep there money but the economy is unable to grow because there is no financing available for the residents ideas.
Leverageville is full of gamblers who hope to make a quick buck. Leverageville holds 1% of its capital to assets and loans out $100,000. The economy has the best prosperity until one day home prices collapse and consumers can no longer pay their loans and the bank collapses.
In the city of Prosperville, the bank has a lending policy which keeps 6% of its capital. It also has $1,000 of loans but the bank is able to loan $20,000. This allows consumers in the country to finance new projects and investments and the country reaches prosperity. The capital requirement are also high enough to prevent collapse.
As seen by these examples, there are three towns. By the Basel Committee raising leverage from 2.5% seen before the crisis to 10% they lower the amount of loans in the economy by 75%. It is important to ensure safety but what is the price the consumer will pay?
As seen by these examples, there are three towns. By the Basel Committee raising leverage from 2.5% seen before the crisis to 10% they lower the amount of loans in the economy by 75%. It is important to ensure safety but what is the price the consumer will pay?
No comments:
Post a Comment