Bailouts start rolling out by the day
Central banks, Wall Street ride to the rescue -- maybe
Welcome to our latest dispatch from what may or may not be a new financial crisis! It’ll take about eight minutes to read.
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What began as a run on Silicon Valley Bank (SVB) two weeks ago has culminated in a full-blown banking crisis, with governments, central banks, major financial institutions, and billionaire investors all scrambling to contain the fallout. Here’s an update on all the bailouts and the chaos likely still to come.
First, there is some debate about whether the U.S. government truly “bailed out” SVB. On one level, of course they did -- one week the bank was gone, the next it seemed to be back.
But not every stakeholder got rescued. Shareholders in the bank have been “wiped out” while the bank’s executives were all terminated. Depositors are the ones that have been made whole, and not only up to the FDIC’s statutory $250,000 guarantee, but for 100% of their savings.
This means that yes, depositors have been bailed out. This seems especially obnoxious as $250,000 ought to be plenty of money for anybody. But if a business is keeping three months’ expenses in the bank, then $250,000 makes them a $1 million a year business -- about 5% of all businesses.
The government had a clear choice after SVB failed: bail out its depositors, or send a signal to tens of thousands of businesses and individuals that their money was in trouble in any regional bank. The businesses wouldn’t face this risk as a result of their business decisions, but in return for simply putting money in the bank -- a total upheaval of risk/reward calculations. The SVB run threatened to turn into a run on dozens or hundreds of institutions.
We can be certain that panic would have ensued, because even with the response, chaos has spread. First Republic Bank teetered last week, prompting a cartel of larger banks -- led by JPMorgan Chase, an unofficial government agency -- to put $30 billion in deposits into the troubled California-based institution. It bears noting that none of the big banks considered buying First Republic, as an estimated 37.7% hole in its investment portfolio plus unknown losses on its loan book make it a terrible investment, even at an 80% equity discount since March 8. At the same time, a flurry of private jet activity in Omaha has led to speculation that billionaire Warren Buffet may put some of Berkshire Hathaway’s $128 billion in cash towards a rescue of some sort for banks like SVB and First Republic also facing a balance sheet crisis.
This is just honest capitalism at work, right? Private businesses taking advantage of big discounts as their competitors fail to secure future profits -- no bailouts to be seen. The problem, however, is that there are two basic outcomes for these efforts:
Option one: the banks’ investment portfolios stay impaired or get worse as interest rates continue to climb, prompting the rescuers to cut their losses -- accelerating the crisis.
Option two: interest rates make a sharp turn downwards, restoring the balance sheets and making the private bailout profitable.
SVB -- and overseas the extraordinary effort to save Credit Suisse -- proves that governments have no appetite for major bank failures of the sort option one would prompt. Major public intervention seems likely if that outcome comes to pass. As for option two, this is the very state giveaway we’ve been experiencing for 14 years, and the kind of dislocation that set the stage for the debacle in the first place. The Federal Reserve’s Open Market Committee meets next week, and investors already predict ongoing rate increases -- i.e. option one.
And yet, the Fed has already not-so-quietly begun the process of a backdoor bailout that works in either case. Its new Bank Term Funding Program (BTFP) will allow depository institutions to pledge bonds, mortgage-backed securities, and other eligible assets as collateral for one-year loans, with the Fed pretending like the collateral is worth its “par” value -- what it was worth when it was first issued.
Since interest rates have shot up over the last year and prices move opposite to yields, these securities are now worth much less than par -- exactly why SVB needed to raise more money, prompting the run. But for the next year, banks can cash these assets out as if nothing has changed. If rates go down in the meantime, this will effectively turn out to be free money -- exactly the kind of option two bailout we expect.
If rates stay high -- if the Fed sticks to its inflation-fighting guns -- it’s hard to imagine Jay Powell suddenly pulling the rug on banks that need the facility. Look for some sort of extension that keeps the bailout afloat, option one. As for retirees and families that have seen their savings degraded by the same rate increases, they get nothing, of course.
For a long time, critics of the market economy have predicted a never-ending cycle of crises interrupted by ever-expanding state interventions on behalf of big investors at the expense of everyone else. History has validated that analysis as capital finds it hard to generate returns on anything other than market manipulation by central banks.
The BTFP keeps the game going much like quantitative easing: propping up bond values which artificially inflates the banks’ collateral position, allowing them to undervalue deposits and pay near zero interest to the depositors they are borrowing from, even as they ratchet up rates on these customers as soon as they need a loan.
But like every other intervention, this creates a cascade of dilemmas for capital’s central planners, each of which will get its own dose of market manipulation, money printing, and government giveaways. Meantime, the official position of everyone in charge is to screw working families as hard and fast as possible for the sake of the very same big depositors getting rescued right now.
How the many at risk decide to confront the few in charge will determine the shape of the years to come. Stay tuned.
Our only investment advice: RIP Bobby.
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