Monday, January 14, 2008

Bank recapitalisation race

A very good article by UR Bhat in today’s ET on the subject is worth a read to comprehend economic developments that have far reaching global ramifications. Do look at it here.

Those of us not having the patience or time to go through the full article will be happy reading the following question-answer noting.

What is at the root of the massive write-downs that are witnessed in the global banking scene of late?

Bailing out bank sponsored off-balance sheet vehicles such as conduits, structured investment vehicles and money market funds beyond the formal legal obligation of the sponsoring bank was at the root of these massive write-downs.

This above development has far reaching implications for the shareholders, the accounting profession and also the banking regulators. Let’s look at them.

Shareholders: This was a risk that they never bargained for but still had to pay for in terms of value erosion.

Accounting profession: It would do well to revisit the level of disclosures and consider putting in place a reporting standard that requires disclosure on such qualitative and unquantifiable risks.

Regulators: They would need to have a rethink on the adequacy of risk capital that may need to factor the financial consequences of banks opting to take on such unenforceable obligations. Further, they need to ensure a fine balance between the dilution of credit creation function of banks which would result from any de-leveraging prescription, with the potential benefits of a healthier banking system.