Only markets, not regulators can determine what capital a bank should hold, the Shadow Financial Regulatory Committee said last week, and it accused bank regulators of going down a path toward creating increasingly complicated capital formulas that are counter-productive. The current specific target of the Shadow Committee's criticism was the Basle Committee's revised capital accord proposal, issued in January, which Shadow member Charles Calomiris termed "a disaster."
The Shadow Committee is a group of private sector specialists in finance that meets periodically to evaluate legislative or regulatory developments that affect bank regulation. In its collective assessment of the Basle proposal, the Shadow Committee said regulators were attempting unsuccessfully "to mimic what the market should require banks to maintain in the way of minimum capital." Calomiris teaches finance at Columbia University.
What regulators should be doing instead, the Shadow Committee contended, is mandating that banks must issue subordinated debt in bad times as well as good. In January, the Federal Reserve reported to Congress that it was setting aside the sub debt issue for further study. Further study is not what is needed, said Shadow Co-chairman Robert Litan.
Federal Reserve official Myron Kwast, associate director of the Fed's Division of Research and Statistics, who was present in the audience as this critique of Fed policy decisions was unfolding, noted that the Shadow's own sub debt proposal envisioned having a 6% minimum capital leverage ratio. Wasn't that as arbitrary as the Basle proposal, he asked. Yes, agreed Shadow Co-chair George Kaufman agreed that it was. Kaufman added, however, that all banks have capital in excess of regulatory minimums because "the market tells them they have to." He teaches at Loyola University.