New bank rules must break the cycle

From Prof Stephany Griffith-Jones.

Sir, The article by Charles Goodhart and Avinash Persaud, “A party pooper’s guide to financial stability” (June 5), is admirable in that it makes a specific proposal for introducing counter-cyclical elements into bank regulation. After almost every crisis, it becomes evident that excessive lending during boom times was at the heart of the problem. Therefore, regulatory measures to counteract that pattern are crucial.

It seems especially important to design rules, like the Goodhart-Persaud one, that are simple and clear; particularly essential is that they cannot be changed easily, to avoid regulators becoming “captured” by the over-enthusiasm that characterises booms and loosening such rules.

Three issues arise. Should the focus just be on an increase in total bank assets, or should there also be some weighting for excessive growth of bank lending in specific sectors that have grown particularly rapidly (such as recently in real estate)? Indeed, often crises have arisen owing to excessive lending during boom times to particular sectors (for example, technology) or countries (for example, developing ones in several episodes).

Second, is it the best way to introduce counter-cyclicality through modifying capital adequacy requirements? Would not the alternative of increasing provisioning against future losses, as done in Spain and Portugal, possibly be a good option?

Third, it seems very important to approve such changes soon, while the appetite for regulatory reform remains high. However, their introduction should be done with a lag, so as to avoid increased capital requirements putting pressure on currently weak banks.

Stephany Griffith-Jones,
Executive Director,
Initiative for Policy Dialogue,
Columbia University,
New York, NY 10027, US