Tuesday, June 27, 2017

Central banks insuring government debt

BOE raises risk reserve requirement:

In addition to the previously noted fireworks from Mario Draghi, also on Tuesday the Bank of England ordered banks to build greater capital cushions in the coming months to protect the U.K. financial system from risks ranging from Brexit to China to booming consumer borrowing. In its twice-annual financial stability report, the BOE's Financial Policy Committee said that there are “pockets of risk” in the financial system, and to address them the BOE set the countercyclical capital buffer at 0.5% of risk-weighted assets for U.K. loans effective in June 2018, and if nothing material changes the central bank plans to increase the level again to 1% in November.

In the sandbox we do it different. 

When loans to deposits are out of balance, the S&L machine executes interest swaps to bring them back in balance.  The traders discover, ex post, they had been out of balance in the past, but no more. 

The systematic counter-cyclical risk they are trying to remove is the risk that government cannot make interest payments.  But the S&L machine in the sandbox treats all accounts the same, ordered by significance.  There is no rule change if one of the heavy borrowers is government.

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