... and its close relative, which I used to come across a lot and I'm sure you did too, "basing your actions on a set of assumptions and calculations that you know to be wrong because it's too complicated to work out some that might be right."
... and a lot of the time it works! and putting together an entire parallel system to calculate the right numbers really would be quite expensive! managing everything on the basis of the wrong numbers just has ... poor risk properties. which are unfortunately often correlated to exactly the kind of conditions in which you really really need to not be flying blind
Exactly so. Almost any accounting or regulatory model will work in “normal” (statistical) circumstances only to fail in the tails of the distribution- which is in fact the only time it matters whether they work or not...
Yes, the regulators do use capital to implement other policies. Blame the lawyers and legislators for that: not mental prisons. Capital is the easiest way to enforce regulatory will on the banks. The lawyers are otherwise afraid to act without the acquiescence of the bank, so they gussy it all up as capital. (One exception: AML, where the supervisors and lawyers feel empowered enough to use ordinary tools.)
it very much depends on whether someone publishes it! about which negotiations are apparently ongoing, I will certainly announce as and when we sell the rights.
How do you propose we manage bank failure if banks approximate their own capital needs? Seems to me this would undermine bail-in regime significantly as there would be a big incentive to underreport (plus bail-in debt is £££)
LMAO because for once, I *think* I agree with you completely? I remember when Hull & White were running around saying that it made no sense to charge FVA based on the bank's overall cost of funding, because it is projects that are risky or not - i.e. FVA ought rationally to be a marginal calculation. And they were right! But no bank that I know of does this because it is too hard. Likewise, every XVA desk I know of charges KVA according to regulatory rules, not marginal capital capital requirements. That one is not necessarily irrational; after all, in some sense it is the regulatory impact on capital that matters. On the other hand, CVA is usually charged on a marginal basis, is it not?
Yes, CVA is a funny one because it's practically the only risk that's dealt with properly, I think because the concept was brought in just at the high-water mark of internal modelling (it was in Basel 2.5, the immediate short term package of fixes for things that had blown up in 09, iirc). You will recall that one of the revelations of the Swiss inquiry into UBS was that the treasury charged all funding out to the trading desks at flat LIBOR!
As a recent systems bio grad hoping to make the relatively short hop over to econ and finance, private sector or otherwise, it has been surprisingly difficult to find a guide to entering my new mental prison of choice in the first place. Obviously in ecology there was no shortage of modelling assumptions that were really pushing it a bit because it would be too expensive to do otherwise, but people generally told me what they were somewhat more readily.
Very much looking forward to the book, even if I might have to order it after an accounting textbook or three and read them in parallel.
for accounting, read "Accounts Demystified" or one of the "for dummies" books. I've never seen a Big Four partner's office which didn't have a well-thumbed "accounting for dummies".
... and its close relative, which I used to come across a lot and I'm sure you did too, "basing your actions on a set of assumptions and calculations that you know to be wrong because it's too complicated to work out some that might be right."
... and a lot of the time it works! and putting together an entire parallel system to calculate the right numbers really would be quite expensive! managing everything on the basis of the wrong numbers just has ... poor risk properties. which are unfortunately often correlated to exactly the kind of conditions in which you really really need to not be flying blind
Exactly so. Almost any accounting or regulatory model will work in “normal” (statistical) circumstances only to fail in the tails of the distribution- which is in fact the only time it matters whether they work or not...
Yes, the regulators do use capital to implement other policies. Blame the lawyers and legislators for that: not mental prisons. Capital is the easiest way to enforce regulatory will on the banks. The lawyers are otherwise afraid to act without the acquiescence of the bank, so they gussy it all up as capital. (One exception: AML, where the supervisors and lawyers feel empowered enough to use ordinary tools.)
Can American readers buy your book in dead tree versions? Only Kindle version is available on Amazon US.
it very much depends on whether someone publishes it! about which negotiations are apparently ongoing, I will certainly announce as and when we sell the rights.
How do you propose we manage bank failure if banks approximate their own capital needs? Seems to me this would undermine bail-in regime significantly as there would be a big incentive to underreport (plus bail-in debt is £££)
Nice article btw, thought provoking!
LMAO because for once, I *think* I agree with you completely? I remember when Hull & White were running around saying that it made no sense to charge FVA based on the bank's overall cost of funding, because it is projects that are risky or not - i.e. FVA ought rationally to be a marginal calculation. And they were right! But no bank that I know of does this because it is too hard. Likewise, every XVA desk I know of charges KVA according to regulatory rules, not marginal capital capital requirements. That one is not necessarily irrational; after all, in some sense it is the regulatory impact on capital that matters. On the other hand, CVA is usually charged on a marginal basis, is it not?
Yes, CVA is a funny one because it's practically the only risk that's dealt with properly, I think because the concept was brought in just at the high-water mark of internal modelling (it was in Basel 2.5, the immediate short term package of fixes for things that had blown up in 09, iirc). You will recall that one of the revelations of the Swiss inquiry into UBS was that the treasury charged all funding out to the trading desks at flat LIBOR!
There's a great article by Andre Perrold https://onlinelibrary.wiley.com/doi/abs/10.1111/j.1745-6622.2005.00051.x which I think suggests a sensible compromise, but absolutely nobody uses it.
Hadn't seen that Perold thing - thanks!
As a recent systems bio grad hoping to make the relatively short hop over to econ and finance, private sector or otherwise, it has been surprisingly difficult to find a guide to entering my new mental prison of choice in the first place. Obviously in ecology there was no shortage of modelling assumptions that were really pushing it a bit because it would be too expensive to do otherwise, but people generally told me what they were somewhat more readily.
Very much looking forward to the book, even if I might have to order it after an accounting textbook or three and read them in parallel.
If you want a textbook on finance, this one https://www.amazon.co.uk/Quantitative-Methods-Finance-Keith-Parramore/dp/186152367X is one of the few things I've been moved to write an Amazon review of (it's out of print but you can pick up second hand copies). It's not rigorous at all but it will get you there quickly.
for accounting, read "Accounts Demystified" or one of the "for dummies" books. I've never seen a Big Four partner's office which didn't have a well-thumbed "accounting for dummies".