Capital requirements could hurt banks

Part 1: Preventing another financial crisis

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(This is Part 1 of a two-part series. Read Part 2.) While policymakers and their kibitzers, among which I count myself, debate what is needed to cure the current crisis and associated recession, another debate brews in the background. It is about how to fix the system so that it doesn't happen again. Any coherent proposal for fixing the system is necessarily based on judgments about the causes of the current crisis. While there are many differences in emphasis, I believe that most observers would agree on the essentials: The crisis originated with a bubble in the residential real estate market, followed by its inevitable aftermath of declining home prices, and a subsequent explosion of home mortgage defaults and foreclosures. The resulting losses were worldwide because foreign investors held enormous amounts of U.S. mortgage-related assets. Financial institutions worldwide did not have the capital to absorb these losses, resulting in the collapse of many, and enormous infu...