I genuinely do not know the extent of U.S. bank insolvency, but I do wish to pass along this contrary opinion:
Then he [Buffett] says the problem of American banks are not overwhelmingly toxic assets. This is a radical view – but it is in my view correct. The problem with the banks is that nobody will trust them and they have not been able to raise funds. The view that this is a liquidity crisis – and not a solvency crisis – has long been a staple of the Bronte Capital blog. It is radical though. Krugman, Naked Capitalism and Felix Salmon think alike – asserting – seemingly without proof – that the problem is solvency. Buffett doesn’t even think the US banks (on average) require capital – a view that most people would find startling (though again I think is correct provided appropriate regulatory forbearance is given).
And this:
Krugman is finally coming to the view that the important technical question is whether to issue that guarantee [to bank creditors]. He is right. Provided the guarantees can be issued at reasonable cost they should be issued. Both Warren and I think the cost would be reasonable in the USA. By contrast I am not sure the UK has the blanket guarantee option because the UK banks are very large relative to the UK economy and they started highly capital inadequate. US banks by contrast started with a lot of capital.
Here is Hempton's previous radical post. I thank William Utley for the pointer. Perhaps I will be pilloried for posting this, but maybe the conventional wisdom can be wrong twice in a row.
If you want a ray of hope, possibly based on lies, try this article; opening line: "Stocks are rising after troubled Citigroup said it operated at a profit during the first two months of the year."
Reporting an operating profit while still experiencing net losses (due to periodic huge special charges and writedowns) just means someone is skilled in accounting gimmicks. Seen this in a number of unhealthy companies. Quarter after quarter of decent profits, and then – woops, need to write down a huge sum in special charges due to discontinued operations or what have you (aka we hid the losses in this section of the company and now can’t avoid recognizing them any longer).
Related news, there was a plan to bring all the off-balance-sheet assets into the open – but that has now been deferred until the fiscal year beginning Nov 2009 (not just for Citi, but in general). Until we get that part of the picture, the accounting statements are really fairly worthless.
If this is the case, then why can’t the banks lend their way to profitability?
Do we need different capital requirements for recessions?
Capital requirements are to keep banks from taking too many risks in the runup so that when the recession comes they are still viable. They worked. Now we know the banks are in trouble and people need cash to fund orderly liquidations, right?
I would love to be wrong (and for Krugman, Roubini, etc. to be wrong too), but I don’t think that I am.
Aren’t banks are facing a drop in demand for loanable funds? I keep hearing that households and firms are trying to “deleverage,” so even if banks had all the liquidity they could dream of, would anyone even want to borrow it? If this is the case, then banks can’t put new loans on their balance sheets, while that same lack of loans prevents new deposits at other banks.
Huh, it was my impression that the last 18 months or so, the talk was all about liquidity crisis, and that there was no solvency crisis. Now we’re finally talking about a solvency crisis, then they go back to liquidity crisis again. Sigh.
> Hempton believes the value of the FDIC insurance subsidy is zero or negative at a system-wide level. That is, he thinks if you remove FDIC insurance tomorrow, average system-wide deposit rates will actually fall.
I don’t want to put words in his mouth, but I don’t think he is saying exactly this. This is my sense of what he is saying, though I could be wrong:
If you removed FDIC insurance tomorrow, people would move their deposits today from questionable institutions to healthy ones. The questionable institutions would go bust immediately. Textbook bank run. The healthy ones would have less competition for deposits, and would also no longer have to compete with institutions for which the value of the FDIC put (read subsidy) is strongly positive.
@barbar:
I don’t know who you consider to be fronting the debate in the bogoshere; I suspect you are reading the wrong blogs or watching the GE channel or something.
Hempton cites his opponents as Felix Salmon, Yves Smith and Krugman. Salmon, Smith and Krugman may be wrong, but they are not stupid and they can read a balance sheet. Smith and Salmon have been very insightful through this crisis.
“This is my sense of what he is saying, though I could be wrong:
If you removed FDIC insurance tomorrow, people would move their deposits today from questionable institutions to healthy ones. The questionable institutions would go bust immediately.”
Well, if this is what he’s saying, he’s out of his mind.
Not 1 in 20 depositors is in any kind of postition to evaluate whether his instutution is questionable or healthy. And even those of us who are face all manner of accounting gimmick. Just witness Regions Financial’s creative use of “goodwill” assets.
My stanford deposits had a great interest rate…until i realized he stole all the money
Are liquidity and solvency not perhaps two separate, existent, and related problems?
I was reading John Taylor’s analysis of the LIBOR-OIS spread, where he argues that the rising spread since Aug-07 suggests investors were pricing in counterparty risk even before Lehman, and he also notes this spread blew up after Lehman. His point is that increasing liquidity did not solve this problem. Yet we know that banks are not lending and that is also a separate problem. But perhaps banks are not lending because counter-party risk is so high (I realise this statement is vague; I’m not completely clear how the mechanisms of leverage would work here), and so the problem of solvency compounds an already existing problem of liquidity.
With the current economic situation and the credit crisis banks have been struggling hence the “bailout.† Banks are losing money because of all the foreclosures on homes. People were buying more expensive homes than they could afford and banks were lending them the money. When interest rates rose people were unable to make the monthly payments and went into foreclosure. The banks are now trying to recover from those bad loans and increase their liquidity. Some banks did receive money from the bailout but they are get back on their feet from all the bad loans. In doing this they are ruining a lot of good customers. They are trying to cover the bad loans therefor they are refusing to renew loans that are being paid on time every time. Eventually when the economy does come out of the recession these banks that have turned away all their good customers will still suffer because they have no business. People will not want to do business with a bank that turned them down after they had been faithful to them. I believe that this is a very dangerous things the banks are doing, I think it will hurt them in the long run.
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