Karen Petrou: Why Regulators Will be Flat-Footed if Bad Now Turns Soon to Worse
One of the comforts with which bank regulators will doubtless console themselves after last week’s market rout is that the largest U.S. banks have the capital not only to withstand this, but also the probable, profound consequences of the President’s punitive tariffs. However, because U.S. regulators mismeasure capital resilience, this confidence is misplaced. Using the economic-capital approach I recently endorsed shows that, while U.S. banks still are strong, they are not fortresses.
FedFin recently analyzed two new studies demonstrating that geopolitical risk is hard on bank solvency. To this, one of course can say that there’s no real-world need for exhaustive studies of dozens of countries over decades – common sense buttressed by history makes this all too clear. These hard lessons and the data that describe them do, though, make clear that it’s more than worth revisiting the United States after the Smoot-Hawley tariffs to get a sobering idea of the negative feedback loop between geopolitical risk, macroeconomic hazards, bank vulnerability, and – back to the beginning, geopolitical risk. Any talk of the 1930s is alarmist and also inapplicable in numerous respects, but it is the most pertinent example of geopolitical risk over the past century and thus demonstrates the need now to be very, very careful – not something this White House appears to be good at.
Economic-capital measures are a more robust platform to assess bank resilience than regulatory capital and are thus of particular pertinence at this dangerous moment. Regulatory-capital measurements are so complex and often …