WERE THE PROFITS OF THE BIG BANKS ALL DUE TO LEVERAGE?

WERE THE PROFITS OF BIG BANKS ALL DUE TO LEVERAGE? Almost three years ago, I posted several times, including here, about the extraordinary leverage ratios of some financial institutions. John Lanchester suggested that you try to imagine what you could afford to buy if you could borrow 30 or even 60 times the value of your assets (Think of borrowing 60 times the value of your car). It’s good to remind ourselves of these ratios at a time when the minimum capital ratios for banks are being debated. An article captioned “Capital punishment” in the Economist (September 10) points out that American banks had a ratio of 30 to 1 while some European banks were up to a ratio of 80. The article then says: “An unpublished study by Credit Suisse, an investment bank, found that with the exception of Goldman Sachs, none of its rivals would have consistently made returns much above the cost of their capital before the crisis had they been forced to limit their leverage to sane levels.” In other words, the large returns before the crisis were not due to brilliance, but rather to risk taking.