Controlling vs Collateralizing Risk
Regulatory reforms that focus on improving risk controls rather than increasing capital reserves is the better path for the future of banking, according to Katsunori Nagayasu, president of the Bank of Tokyo-Mitsubishi UFJ and chairman of the Japanese Bankers Association (“How Japan Restored Its Financial System,” WSJ, Aug 6, 2009).
Regulatory authorities around the world are currently discussing ways to prevent another financial crisis. One idea is to mandate higher levels of capital reserves. Japan’s banking reform shows that a comprehensive solution would work better.
Requiring banks to increase capital reserves is itself, “risky.” For one thing, banks may not be able to raise sufficient capital in the equity markets to meet the revised capital requirements. Moreover, raising capital requirements tends to disadvantage banks that focus on traditional borrowing and lending transactions, and advantage banks that trade and take risks with their own accounts.
