Wednesday, 10 August 2016

While we Brexit, can we also admit that banking stress tests are corrupt?

In this opinion piece, an academic concludes that “that the Bank of England’s stress testing programme is unreliable and counter-productive, both because of the false risk comfort it creates and because of its tendency to create additional systemic risks that the models cannot see.”

Given just how much western economies depend upon banks as stores of fiat wealth, you’d have thought that western states would have had the self-interest to ensure that they could trust their own banks to do the job well.

But it seems that even these “stress tests” are nothing more than an expensive publicity stunt.

Which, of course, makes sense, given that financial reporting requirements in Europe have allowed entities to report financial investments at historic cost instead of current fair (market) value.

What does the academic conclude should be done?
  1. “The first step is to recognise that the stress-testing programme is a failed experiment that should be aborted forthwith.”
  2. Get the accountancy right.  “A start in this direction would be to require companies to prepare accounts using UK GAAP as it existed before the UK adopted IFRS accounting standards in 2005.  However, what is really needed is a complete overhaul with a focus on reforming the widespread abuses associated with mark-to-market, mark-to-model, mark-to-myth and off-balance-sheet activities.”
  3. “We need to restore strong corporate governance in banking and that requires the restoration of strong personal incentives on the part of key decision makers. Bank senior managers and their auditors need to be made personally and strictly liable for the consequences of the decisions they make: their own personal wealth should be first on the line to cover any losses.”

I strongly agree with the last point. Personal liability for signing off bullshit should be punishable as such, instead of being allowed an excuse of “plausible deniability”.  We should carry this recommendation into public life generally - including policy makers - not just limit it to financial service providers.

I don’t often make time to read academia, because most of it in the blogosphere is lefty Keynesianism which chooses to ignore the lessons of history (or even basic facts, especially the inconvenient ones).  It seems that Professor Kevin Dowd might be different.

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