HAIRCUT, What is a haircut? – Part 1
Dr Atie J El Mouallem
What is a haircut?
In financial markets, a haircut refers to a reduction applied to the value of an asset. It is expressed as a percentage. For example, if an asset – such as holdings of a particular government bond – is worth USD 1 million but is given a haircut of 20%, it means it is treated as though it has a value of only USD 0.8 million or even a deposit.
IN LEBANON CASE ARE WE GETTING A HAIRCUT ON DEPOSITS OR SECURITIES AS WELL?
WHO WOULD ANSWER?
When are haircuts used?
One example of when haircuts are used is when central banks lend money to commercial banks. In return for the loan, as a form of insurance, the central bank will ask for collateral (find out more about collateral). However, it will apply a haircut, i.e. a reduction, to the value of this collateral. Taking the example above, an asset worth €1 million at fair market price, but given a 20% haircut, would only be sufficient to receive a loan of €0.8 million.
IN Lebanon who’s Lending? Is it the CB lending the Commercial Banks or the other way round?
Or is it the Private sector and the depositors lending both?
Why are haircuts used?
Central banks need to be sure that the money they lend will be paid back. Of course, the first line of defence is the agreement with the borrower regarding repayment. But if the borrower fails to repay the loan, the central bank will sell the collateral. It therefore needs to be sure that it will be able to sell the collateral at a price that will cover the amount of the loan. But assets can go up and down in value and central banks may need some time to sell specific assets. A haircut, therefore, provides a kind of safety buffer against any loss in value and the time it takes to sell the collateral.
In Lebanon what kind of Collaterals have we got? Where are the devaluated collaterals as to assess the losses as to enable us to determine the Urgency of the Haircut?
Where is the transparency, the due diligence, the Guidelines related to use the haircut?
Is it based on direct losses or THEFT?
What determines the size of a haircut?
The lender must consider what size buffer is sufficient to cover the risk of not being able to sell the asset at its current value. This will depend on the factors mentioned above, including how risky that type of asset is, i.e. how volatile its price is, and how “liquid” it is, i.e. how easy it is to sell it quickly without a loss of value. Similarly, in a central bank context, government bonds tend to be relatively safe, liquid investments and receive a smaller haircut than bank loans, which can also be used as collateral and tend to be less liquid.
In Lebanon, were the buffers to cover the risks previously taken into consideration or was it only based on clientelism and corruption? Are our Government Bonds safe? Liquid investments?
Is the Haircut Size based on the Thefts previously taken and losses accumulated? Are the depositors the only people that will suffer?
Where’s the Looted Money???? Who’s claiming for it????
To be continued……