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Loan Loss Reserves Could Jump 50% Under New FASB Proposal


Parsad
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Because the past five years have not had significant increases in loss histories? I didn't read the article but based on my understanding, I don't think from a loan perspective it will have a huge impact given recent year's loss histories.

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http://www.voxeu.org/article/implementation-basel-iii-us-will-bring-back-regulatory-arbitrage-problems-under-basel-i

Another problem is caused by the inevitably ad hoc nature of assignment of a risk weight to each category of assets.  Because of this problem, creation of finer “buckets” can actually distort bank behaviors even more if the allocated risk weights differ from the risk differentials that banks perceive. For example, according to the Notice of Proposed Rulemaking on the Standardised Approach, residential mortgages are classified into eight buckets depending on the loan-to-value ratio and the type of loan and given different risk weights. Thus, the classification is finer than that in Basel I, which assigned 50% risk weight to all mortgage loans.  Now a 30-year amortising mortgage with the loan-to-value ratio between 60% and 80% gets risk weight of 50%, while an interest-only loan with the same loan-to-value ratio receives increase the 100% risk weight.This would be fine if the bank sees the interest-only loan as twice as risky as the 30-year amortising loan and requires twice as much capital.  If that is not the case, the bank will have an incentive to reduce one type of loan and increase the other.  For example, if the bank sees that the risk of the interest-only loans they originate are not quite twice as high as the risk of the 30-year amortising loans, the new capital regulation will discourage the bank from originating such interest-only loans. At the same time, some other banks may find the type of interest-only loans that they generate are actually more than twice as risky as their 30-year amortising loans. In that case, these banks will actually amount of interest-only loans.

 

You already see the liquidity oriented rules biasing banks towards GSE securities, which allows for shadow financing to adopt dealer roles traditionally held by banks.

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