LA GESTIÓN DE BUENAS PRÁCTICAS EN EL AULA

In principle, the risk implications of banks’ strategic choices for their creditors and for the finan- cial system as a whole provide the main rationale for statutory prudential regulation of banks. As mentioned above, the relative decline in the equity capital of banks that we have seen since the nineties has partly been due to banks availing themselves of the option provided by the 1996 Amendment to the Basel Accord of determining regulatory capital for market risks on the basis of their own quantitative risk models, rather than the crude ratios that had been used before and that were still being used in the so-called standard approach. The criticism that there was an ex- cessive reliance on quantitative risk models, must therefore be directed at bank regulators and supervisors as well as bank managers.

Acceptance by the regulators of the model-based approach to determining regulatory capital re- quirements was the result of intense lobbying by prominent banking institutions in the first half of the nineties. In 1993, the Basel Committee on Banking Supervision issued a draft proposal for the determination of bank capital requirements for market risks on the basis of crude ratios of the sort that was used for credit risks under the 1988 Basel Accord (“Basel I”). The banking industry responded with intensive criticism, arguing that such regulation would represent a step back from the very sophisticated risk management procedures that they themselves had started to im- plement on the basis of quantitative models. Two years later, in 1995, a modified proposal was presented, which gave banks the option to use a model-based approach, rather than the approach that had been proposed originally (now called the standard approach). Another eight months later, this modified approach was codified in the 1996 Amendment to the Basel Accord.

The banking industry was certainly right in claiming that, as a way of dealing with market risks, the standard approach was clumsy and would have represented a step back from the sophisti- cated risk management methods that they were already using. The banking industry was also right in suggesting that they knew more about risk management than the regulators. However, in this discussion, the notion that there is a difference between private interests and the public inter-

est in risk management and risk control of a bank seems to have been lost. I think of this process as regulatory capture by sophistication.111

The question of how to protect the public interest against possible flaws in the quantitative risk modelling does not seem to have been given much attention.112 The quality of professional risk modelling in sophisticated banking institutions seems to have been taken for granted. The possi- bility that the model designers might simply fail to properly appreciate an important risk factor does not seem to have been considered. In the end, this possibility materialized when, e.g., risk modellers at UBS neglected the role of residential real-estate prices in the United States as a common factor underlying all mortgage-backed securities. Nor was any attention paid to the pos- sibility that the bank’s quantitative risk model might be inherently incapable of capturing expo- sures to systemic risk that result from the activities of other institutions about which one is not informed, from excessive maturity transformation by SIVs to the counterparty risks of monoline insurers to whom one has transferred the credit risks of mortgage-backed securities.

The capture of regulators by the industry was facilitated by the political constellation: A body of representatives from regulatory authorities and central banks of the G-10 countries, the Basel Committee on Banking Supervision was developing principles aiming at international co- ordination and harmonization of banking regulation when the sector itself was undergoing tre- mendous structural change, driven by revolutions in information processing, communications and risk management technologies and promising to open great new fields of business activity. For the participants from different countries, these negotiations involved the future competitive positions of “their” home institutions as well as the safety and soundness of globally operating banks. In particular, for countries with banking institutions at the forefront of change, most prominently the United States, the introduction of the option to rely a model-based approach seemed like a chance to have “their” institutions benefit from their advantages in global competi- tion in newly developing markets. Even if the bank regulators involved in the negotiations may have had their doubts about the change, the political environments from which they came pro- vided them with little leeway to express these doubts, let alone have them prevail in the interna- tional deliberations.

A similar logic may have been at work in the late nineties when Federal Reserve Board Chair- man Greenspan, Treasury Secretary Rubin, and Securities and Exchange Commission Chairman Levitt, all three of them with strong ties to the investment banking community, used their influ- ence to stop attempts to bring derivatives trading into the domain of statutory regulation, if only

111 For a bank supervisor’s expression of strong unease about this process, its outcome, and its implications for the amount of capital that banks would be required to have, see the contribution of Zuberbühler to Hellwig and Staub (1996).

112 Hellwig and Staub (1996) documents a panel discussion with members of the regulatory community and members of the banking community on these issues. My own contribution pointed out that (i) the Supervi- sory Framework for Backtesting of Models that the Basel Committee had provided did “not seem to recog- nize the fundamental conceptual difficulties of doing statistical inference in a nonstationary world” and (ii) it was incongruous to “believe in the integrity of senior (bank) management in its dealing with risk control if at the same time we believe that senior management is not to be trusted to manage risks properly unless it is subjected to a capital adequacy requirement”.

to impose transparency about trades, positions, and participating parties. More transparency here might also have meant transparency about conduits and SIVs…