From a DER SPIEGEL editorial:
Europe, and we Germans, will certainly have to pay a price for sanctions. But the price would be incomparably greater were Putin allowed to continue to violate international law. Peace and security in Europe would then be in serious danger.
Read more SPIEGEL Editorial: Time to Impose Tough Sanctions on Russia – SPIEGEL ONLINE.
From By Polina Devitt and Gabriela Baczynska at Reuters:
The first European economic victims of the trade war were Polish apple growers, who sell more than half their exports to Russia. Moscow is by far the biggest importer of EU fruit and vegetables, buying more than 2 billion euros’ worth a year.Russia said the ban, covering most Polish fruit and vegetables, was for sanitary reasons and it would look into expanding it to the rest of the EU.
Please buy Polish apples.
Read more at Moscow fights back after sanctions; battle rages near Ukraine crash site | Reuters.
The Footsie is headed for another test of 6850/6900. Respect of the zero line by 13-week Twiggs Money Flow indicates healthy long-term buying pressure. Breakout would offer an intermediate target 7300*. Reversal below 6650, however, would warn of a correction to 6400/6500.
* Target calculation: 6900 + ( 6900 – 6500 ) = 7300
Germany’s DAX is testing support at 9600. Breach would warn of a correction to 9000 — and a weakening primary up-trend. Declining 13-week Twiggs Money Flow indicates selling pressure, but respect of the zero line would suggest the primary trend is intact. Breach of primary support at 8900/9000 is unlikely, but would signal a primary down-trend. Recovery above 10000 is also unlikely at present, but would indicate an advance to 10500*.
* Target calculation: 9750 + ( 9750 – 9000 ) = 10500
Germany’s DAX retreated below medium-term support at 9700, warning of a secondary correction. Follow-through below 9600 would confirm. Declining 21-day Twiggs Money Flow, below zero, indicates medium-term selling pressure. Breach of primary support at 8900/9000 is unlikely, but would warn of a primary down-trend. Recovery above 10000 is also unlikely at present, but would indicate an advance to 10500*. Respect of the long-term trendline at 9500 would indicate that momentum and the primary up-trend are intact.
* Target calculation: 9750 + ( 9750 – 9000 ) = 10500
Deutsche Post AG (y_DPW.DE) serves as a bellwether for European markets. Deutsche Post DHL couriers holds a similar position to that of Fedex in US markets. The stock formed a rounding top over the last year and is now testing primary support at 25.00. Breach of support would warn of a slow-down in economic activity.
The Footsie follows a similar path to the DAX in recent weeks. Reversal below 6700 would warn of a correction; follow-through below 6670 would confirm. Declining 21-day Twiggs Money Flow indicates selling pressure, but respect of the zero line would suggest long-term buying support. Recovery above 6800 is unlikely at present, but would suggest a rally to 6880. Breach of primary support is even less likely, but would signal reversal to a primary down-trend.
* Target calculation: 6800 + ( 6800 – 6400 ) = 7200
Sir Jon Cunliffe, Deputy Governor for Financial Stability of the Bank of England, argues that the leverage ratio — which ignores risk weighting when calculating the ratio of bank assets to tier 1 capital — is a vital safeguard against banks’ inability to accurately model risk:
….. while the risk-weighted approach has been through wholesale reform, it still depends on mathematical models — and for the largest firms, their own models to determine riskiness. So the risk-weighted approach is itself subject to what in the trade is called “model risk”.
This may sound like some arcane technical curiosity. It is not. It is a fundamental weakness of the risk based approach.
Mathematical modelling is a hugely useful tool. Models are probably the best way we have of forecasting what will happen. But in the end, a model — as the Bank of England economic forecasters will tell you with a wry smile — is only a crude and simplified representation of the real world. Models have to be built and calibrated on past experience.
When events occur that have no clear historical precedent — such as large falls in house prices across US states — models based on past data will struggle to accurately predict what may follow.
In the early days of the crisis, an investment bank CFO is reported to have said, following hitherto unprecedented moves in market prices: “We were seeing things that were 25 standard deviation moves, several days in a row”.
Well, a 25 standard deviation event would not be expected to occur more than once in the history of the universe let alone several days in a row — the lesson was that the models that the bank was using were simply wrong.
And even if it is possible to model credit risk for, say, a bank’s mortgage book, it is much more difficult to model the complex and often obscure relationships between parts of the financial sector — the interconnectedness — that give rise to risk in periods of stress.
Moreover, allowing banks to use their own models to calculate the riskiness of their portfolio for regulatory capital requirements opens the door to the risk of gaming. Deliberately or otherwise, banks opt for less conservative modelling assumptions that lead to less onerous capital requirements. Though the supervisory model review process provides some protection against this risk, in practice, it can be difficult to keep track of what can amount to, for a large international bank, thousands of internal risk models.
The underlying principle of the Basel 3 risk-weighted capital standards — that a bank’s capital should take account of the riskiness of its assets — remains valid. But it is not enough. Concerns about the vulnerability of risk-weights to “model risk” call for an alternative, simpler lens for measuring bank capital adequacy — one that is not reliant on large numbers of models.
This is the rationale behind the so-called “leverage ratio” – a simple unweighted ratio of bank’s equity to a measure of their total un-risk-weighted exposures.
By itself, of course, such a measure would mean banks’ capital was insensitive to risk. For any given level of capital, it would encourage banks to load up on risky assets. But alongside the risk-based approach, as an alternative way of measuring capital adequacy, it guards against model risk. This in turn makes the overall capital adequacy framework more robust.
The leverage ratio is often described as a “backstop” to the “frontstop” of the more complex risk-weighted approach. I have to say that I think this is an unhelpful description. The leverage ratio is not a “safety net” that one hopes or assumes will never be used.
Rather, bank capital adequacy is subject to different types of risks. It needs to be seen through a variety of lenses. Measuring bank capital in relation to the riskiness of assets guards against banks not taking sufficient account of asset risk. Using a leverage ratio guards against the inescapable weaknesses in banks’ ability to model risk.
Read more at Jon Cunliffe: The role of the leverage ratio and the need to monitor risks outside the regulated banking sector – r140721a.pdf.
From DAN BILEFSKY and MARLISE SIMONS at the New York Times:
The Dutch Supreme Court, which was upholding a 2011 decision by an appellate court, said that even though United Nations commanders were in charge of the peace mission at Srebrenica, in the days after the Bosnian Serb takeover, Dutch authorities had “effective control” over the troops and therefore shared liability.
Srecko Latal, a political analyst who until recently worked with the nonprofit International Crisis Group in Sarajevo, Bosnia, said by phone that the verdict was important for showing that peacekeepers had both a moral and a legal responsibility to protect civilians….
The Srebrenica tragedy highlights two important issues:
Read more at Netherlands Held Liable for 300 Deaths in Srebrenica Massacre – NYTimes.com.
ANZ chief executive Mike Smith is the latest banker to warn that the push to increase bank capital ratios will reduce access to bank finance. The AFR reports Smith as saying:
It is not just about banks, it is about the real economy – about corporations, business and individuals… It is one thing for a bank to complain about regulation but it is another thing for a corporation to say we are not getting finance because of this regulation that is being imposed on the banks.
Methinks bank resistance to increased capital requirements is more about protecting bonuses than about protecting shareholders or the broad economy. Shareholders would benefit from lower funding costs and improved stock ratings associated with a stronger balance sheet, while Bank of England’s Andrew Bailey had this to say about the impact of stronger capital ratios on bank lending:
I do however accept that there remains a perception in some quarters that higher capital standards are bad for lending and thus for a sustained economic recovery…… Looking at the broader picture, the post-crisis adjustment of the capital adequacy standard is a welcome and necessary correction of the excessively lax underwriting and pricing of risk which caused the build up of fragility in the banking system and led to the crisis. I do not however accept the view that raising capital standards damages lending. There are few, if any, banks that have been weakened as a result of raising capital.
Analysis by the Bank for International Settlements indicates that in the post crisis period banks with higher capital ratios have experienced higher asset and loan growth. Other work by the BIS also shows a positive relationship between bank capitalisation and lending growth, and that the impact of higher capital levels on lending may be especially significant during a stress period. IMF analysis indicates that banks with stronger core capital are less likely to reduce certain types of lending when impacted by an adverse funding shock. And our own analysis indicates that banks with larger capital buffers tend to reduce lending less when faced with an increase in capital requirements. These banks are less likely to cut lending aggressively in response to a shock. These empirical results are intuitive and accord with our supervisory experience, namely that a weakly capitalised bank is not in a position to expand its lending. Higher quality capital and larger capital buffers are critical to bank resilience – delivering a more stable system both through lower sensitivity of lending behaviour to shocks and reducing the probability of failure and with it the risk of dramatic shifts in lending behaviour.
The BOE and BIS tell us that higher capital ratios will improve bank lending, yet Mr Smith is trying to scare regulators with threats that it will have the opposite effect.
Read more at Andrew Bailey: The capital adequacy of banks – today’s issues and what we have learned from the past | BIS.
And at ANZ CEO Mike Smith Rebuffs Murray Inquiry Call For More Bank Capital | Business Insider.
DAX recovered above medium-term support at 9700. This is not just World Cup euphoria as the Footsie displays a similar rise. Follow-through above 9800 would suggest another test of 10000, but declining 21-day Twiggs Money Flow, below zero, indicates medium-term selling pressure. Reversal below 9700 would confirm a correction to the primary trendline at 9500. Breakout above 10000 is unlikely at present, but would indicate an advance to 10500*.
* Target calculation: 9750 + ( 9750 – 9000 ) = 10500
The Footsie shows a similar broadening wedge to the DAX, but Thomas Bulkowski warns they are unreliable continuation patterns. Recovery of 21-day Twiggs Money Flow above the descending trendline would indicate that selling pressure is easing. Reversal below 6700, however, would confirm a correction. Recovery above 6880 is unlikely at present, but would signal an advance to 7200*.
* Target calculation: 6800 + ( 6800 – 6400 ) = 7200
Reading Andrew Bailey’s summary of what the Bank of England has learned about bank capital adequacy over the last decade, it strikes me that there are four major issues facing regulators.
Firstly, simple capital ratios as applied by Basel I encourage banks to increase the average risk-weighting of their assets in order to maximize their return on capital. The same problem applies to the Leverage Ratio introduced in Basel III, which ignores risk-weighting of underlying assets. While useful as an overall measure of capital adequacy, exposing any inadequacies in risk-weighted models, it should not be used on its own.
Risk-weighted capital ratios, however, where bank assets are risk-weighted prior to determining required capital, create incentives for banks to concentrate investment in low-risk-weighted assets such as home mortgages and sovereign debt. Consequent over-exposure to these areas increases risks relative to historic norms, creating a trap for the unwary.
A third pitfall is the use of hybrid debt instruments as part of bank capital. Andrew Bailey explains:
Basel I allowed hybrid debt instruments to count as Tier 1 capital even though they had no principal loss absorbency mechanism on a going concern basis. They only absorbed losses after reserves (equity) were exhausted or in insolvency. It was possible to operate with no more than two per cent of risk-weighted assets in the form of equity. The fundamental problem with this arrangement was that these hybrid debt instruments often only absorbed losses when the bank entered either a formal resolution or insolvency process. It was more often the latter in many countries, including the UK, since there was no special resolution regime for banks (unlike today). But the insolvency procedure could not in fact be used because the essence of too big or important to fail was that large banks could not enter insolvency as the consequences were too damaging for customers, financial systems and economies more broadly. There were other flaws in the construction of these capital instruments. They often included incentives to redeem which undermined their permanence. They were supposed to have full discretion not to pay coupons and not to be redeemed in the event of a shock to the bank’s condition. But banks argued that the exercise of such discretion would create an adverse market reaction which would be disproportionate to the benefits, thus undermining the quality of the capital. More broadly, these so-called innovative instruments introduced complexity into banks’ capital structures which resulted from the endeavour by banks to optimise across tax, accounting and prudential standards.
But even use of contingent convertible capital instruments “with a trigger point that is safely above the point at which there is likely to be a question mark as to whether the bank remains a going concern” could cause upheaval in capital markets if they become a popular form of bank financing. Triggering capital conversions could inject further instability. The only way, it seems, to avoid this would be to break the single trigger point down into a series of small incremental steps — or to exclude these instruments from the definition of capital.
I agree that “there is no single ‘right’ approach to assessing capital adequacy.” What is needed is a combination of both a simple leverage ratio and a risk-weighted capital adequacy ratio to avoid creating incentives that may harm overall stability. This implies a more pro-active approach by regulators to assess the adequacy of risk weightings and a healthy margin of safety to protect against errors in risk assessment.
Lastly, banks are likely to resist efforts to increase capital adequacy, largely because of bonus structures based on return on capital which conflict with the long-term interest of shareholders. Higher capital ratios are likely to lead to lower cost of funding and greater stability.
I do however accept that there remains a perception in some quarters that higher capital standards are bad for lending and thus for a sustained economic recovery…… Looking at the broader picture, the post-crisis adjustment of the capital adequacy standard is a welcome and necessary correction of the excessively lax underwriting and pricing of risk which caused the build up of fragility in the banking system and led to the crisis. I do not however accept the view that raising capital standards damages lending. There are few, if any, banks that have been weakened as a result of raising capital.
Analysis by the Bank for International Settlements indicates that in the post crisis period banks with higher capital ratios have experienced higher asset and loan growth. Other work by the BIS also shows a positive relationship between bank capitalisation and lending growth, and that the impact of higher capital levels on lending may be especially significant during a stress period. IMF analysis indicates that banks with stronger core capital are less likely to reduce certain types of lending when impacted by an adverse funding shock. And our own analysis indicates that banks with larger capital buffers tend to reduce lending less when faced with an increase in capital requirements. These banks are less likely to cut lending aggressively in response to a shock. These empirical results are intuitive and accord with our supervisory experience, namely that a weakly capitalised bank is not in a position to expand its lending. Higher quality capital and larger capital buffers are critical to bank resilience – delivering a more stable system both through lower sensitivity of lending behaviour to shocks and reducing the probability of failure and with it the risk of dramatic shifts in lending behaviour.
Read more at Andrew Bailey: The capital adequacy of banks – today’s issues and what we have learned from the past | BIS.
Jeremy Warner on the drive for Britain to separate from the EU:
…Yet getting out entirely doesn’t strike me as either a wise or necessary approach to the developing standoff in relations…..Jacques Delors, who whatever you might think of him remains one of the few leaders of any authority and vision to have emerged from the European quagmire, has suggested a possible way out for Britain – a sort of amicable divorce, but with extensive child visiting rights. He’s called it “privileged partnership”, with apparent access to the single market and some say in its operation. For some eurosceptics, this will not be sufficient, for it would require agreement to the four freedoms: free movement of goods, services, labour and capital…..Yet from a purely economic perspective, this looks like a good and workable solution. For the rest of Europe, the single currency is driving a process of integration which must ultimately require some form of fiscal and political union. It’s still a long way off, but it is coming, and inevitably, it places Britain in a completely different, non participant role…..
Read more at The "Junckernaut" is driving Britain to inevitable separation – Telegraph Blogs.
