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Why the Banking Crisis Isn’t Over Yet

Why the Banking Crisis Isn’t Over Yet

Fri, 17 Mar 2023 09:45

In the past week, as spooked customers frantically withdrew $42 billion from Silicon Valley Bank, the U.S. government stepped in to craft a rescue operation for the failed lender. But efforts to contain the crisis have met resistance, and the fallout of the collapse has already spread to other regional banks, whose stocks have plummeted. Guest: Emily Flitter, a finance correspondent for The New York Times.

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From New York Times, I'm Michael Borrow. This is a daily. There's growing concern that the bank crisis could spread. Today shares of San Francisco-based First Republic Bank lost more than half their value on Wall Street. Today, as the banking crisis enters its second week. Yeah, worst weeks since 2020 last week, John and this week is not starting out on a better note. We look at the spreading fallout. It's elsewhere in the regional banks as well. Back west, Western Alliance, Zion, they're all down substantially in the first few minutes of training here. And why the government's attempt to contain it is meeting so much resistance from bank investors and customers. We turn, once again, to my colleague, Emily Flitter. It's Friday, March 17th. Emily it has now been nearly a week since this banking crisis began. And if we roll back the clock to more or less this very moment a week ago, last Thursday, customers of Silicon Valley Bank were frantically withdrawing $42 billion from that bank. It was becoming a huge crisis, which is why the US government stepped in and took over that bank and began crafting a rescue operation that involved taking over yet another bank, signature bank. And that's where things were when we talked to you earlier this week. And where that episode left off was with President Biden telling Americans, your money is safe. It's going to be okay. So pick up the story from there. So when we last spoke, it was Monday afternoon. There was still this sense that everybody was holding their breath, trying to figure out exactly how the federal government's actions were landing. And there were a lot of questions like how would bank investors react as the week were on? And how would bank customers react? Would people still be itching to get their money to a different spot? What we saw was that everybody was jittery. And one of the places where the continued lack of confidence was most evident was in the regional banks, first Republic, Western Alliance, PAC West. These banks were still seeing customers pull their money out, and they were seeing their stock value plummet too. Okay. And what's your sensibly of why these regional banks and their stock? Why they're plunging when this federal plan that had been announced over the weekend, which we talked to you about in this episode, was designed to reassure everyone that things were fine, that everyone's money was safe, that they shouldn't be in a panic anymore. The short answer is interest rates. Investors looked at these banks. They looked at how surprising Silicon Valley Bank was in its failures to manage interest rate risk. And they thought, why should we assume that these other banks have done a better job than Silicon Valley Bank did? And just as a reminder of what you told us last time, Silicon Valley Bank had invested in things that looked really great when interest rates were low and looked a lot less great when interest rates had risen over the past year and then decided it didn't need to sell those investments off, which is what scared the bejesus out of investors because they lost money on that sale. That's right. And it was malpractice to a certain extent by Silicon Valley Bank that they didn't take into account that the Fed had this plan that they were executing that they had been really clear about to raise interest rates to counteract inflation. And so basically the Biden administration came out and wanted to tell everybody, look, it's fine. We've got this. And it was almost like when a little kid falls over and they looked to the adults to see how the adults are reacting, whether they're going, oh no, no, or whether they're just like, oh, you fell, it's okay to decide whether to cry. The Biden administration wanted to say it's fine. This was a little stumble. The markets just weren't accepting that. I mean, there was a whale that was coming out, whether or not the adults in the room wanted it to. And in this fascinating metaphor, the Biden administration is the parent who fails to calm their kid and instead makes their kid freak out. In fact, makes every kid on the block freak out by being so urgent in their response to the scraped knee that was Silicon Valley Bank's bad decision making around interest rates. These banks we were told did not pose systemic risk. We were told that within the past five or six years, when regulators and Congress got together and actually loosened regulations on these banks. So if they weren't that big a deal and one of them could fail and it wouldn't bring down the system, why did the administration come out and say that Silicon Valley Bank's depositors all needed to be made whole because it was a systemic risk if they were not? I think that was a pretty big step and this was the way that markets reacted when they opened. But is this underlying fear that the rising interest rate is a problem for all these regional banks that are seeing their stock price go down? Is that actually a reflection of bad decisions made by these banks around the interest rate and real vulnerability or is this just sort of irrational and fear making more fear? Well the question that investors had to answer on Monday morning when the markets opened was were they willing to bet their own money or their clients money that there weren't going to be any more problems among these regional banks caused by rising interest rates? And they decided it's not a safe bet. We're worried and we're going to express that worry. And then on Tuesday they got a little confirmation of this worry in the form of ratings agencies coming out and saying we too are reevaluating the security and stability of these regional banks based on their management of interest rate risk. Which is exactly the kind of signal that would make investors worry because they're suddenly getting a rating agency which is the kind of institution we all trust to tell us what's what saying we too are kind of worried about whether rising interest rates are bad for these banks. That's right. And let me just take a moment though to make a very important note about these rating agencies. It's up to investors especially in this situation to decide whether the ratings agencies are identifying a real problem or just trying to cover their keysters. These ratings agencies are supposed to be watching all of the entities that they're providing ratings for really closely. And so even the ratings agencies saying we're reevaluating if you're a market participant you've got to figure out like how much weight to give that. So just to be very clear, even though we know because as well you told us that select on value bank failed not because interest rates went up but because they didn't plan for those interest rates going up in a prudent way. And what happened to them therefore was fundamentally unique. All these investors they don't want to take that bet that Silicon Valley bank situation was unique. And now the ratings agency is giving them a reason to lean into their doubts and to sell the stocks of your first republics and your Western alliances and so on. This is all leading to a lot of investors getting pretty spooked. That's right. Even though there's not really any evidence that they should be spooked. Not only is there not definitive evidence that they should be spooked but the Fed and the Biden administration are out there saying essentially it doesn't matter. Whatever these banks are doing with their interest rate risk management we're going to work it out and we're going to make sure that they all can access enough cash at the drop of a hat that they should be able to get through this. That's the message that the financial regulators and the White House want people to come away with. Right. So this is a whole lot of fallout for not a very good reason which if you've covered the financial markets you kind of know is the very nature of investing. That's right. There's been kind of an outsized fallout from Silicon Valley bank failing for what is essentially bad management and specifically the decision to sell off an entire portfolio of securities at a almost two billion dollar loss and publicize that sale. And what we recently learned is that the people who advised them to do that and to publicize the fact that they had done it are getting paid or are charging at least a hundred million dollars for that advice. That's Goldman Sachs. Which seems to put an even finer point on the idea that what happened at Silicon Valley bank was unique based on what seems like uniquely bad advice and decisions. And therefore this is not really a risk to the whole system. Yeah, if you're an investor you have to take all these different inputs. The government's reaction which is meant to reassure but maybe actually is a signal of how bad things are or almost were everybody's in the marketplace trying to synthesize all of this stuff. And what they decide to do is to pull back to say I'm just not willing to bet my money on everything being totally fine. And that has real world effects in the market. Right. And it feels like one of the major real world effects in the market is a development that is entirely unexpected by me at least that happens this week and it happens not in the US but over in Europe. And that's what happens at Credit Suisse. This major bank based in Switzerland that suddenly seems like it's in crisis. So what the heck was happening there? So let me walk you through it. Credit Suisse has not been okay since basically the financial crisis. They went through the crisis like everybody else kind of came out a little shaky but then they made a bunch of really bad decisions and they just never really got back on solid footing. So that's the backdrop against which the American banking crisis starts to lead investors in Europe to look at Credit Suisse again. And when they do take that look, they see a couple of new things that while they're kind of small are problematic. Hmm. Such as the first one is that the Swiss financial regulator came out and said, we've found some material weaknesses in Credit Suisse's accounting practices. Not the huge deal in the world but when you're talking about a global financial market in which an American bank has just shocked everyone by failing because of bad practices, you're going to look at that with some more seriousness. And then the other thing is a big investor in Credit Suisse was being interviewed and he just kind of casually said he wasn't going to increase his stake in the bank any further. And people took that as a sign of a loss of confidence when really it was just the investor talking about his own strategy that didn't have to do with his views on whether the bank was a good investment. So without sort of really understanding it, people who had investments in Credit Suisse basically said, oh my God, we need to rethink what we've been doing. God, so in a way, what's happening at Credit Suisse is just a measure of how hypersensitive and fearful everyone is of what's happening over in the US because in a lot of ways, what you're describing is not an analogous situation. It's a pretty unique situation to Credit Suisse just as it was a unique situation at Silicon Valley bank, but people are making all kinds of scared linkages in their head. I mean, nobody was going to tell you two weeks ago that Credit Suisse was the pillar of banking practices and stability and the best investment ever. But there's a different context now. And there's a different tolerance for shenanigans and Credit Suisse has been trying to get its act together for so long that any little thing is just going to set people off and that's what happened. We'll be right back. So Emily, bring us up to where we are because all of this is still playing out in a very messy real time way. So where are we right now? So it's Thursday and things are calming down for Credit Suisse. Investors are finally embracing the measures that the Swiss government took to help stabilize the bank. This week provided $54 billion in loans to the bank. And it's a move that we can say worked because global stocks have reacted positively. Another thing is that the European Central Bank raised interest rates today. And that is really significant because there were people who are thinking that maybe this turmoil, which has been attributed so much to rising interest rates here in the United States, could basically cause the central banks around the world who have been acting in some coordination to pause on the interest rate hikes. And the European Central Bank signaled today that they're not going to let this stop their agenda. Got it. So the message from the European banking system is when it comes to increasing interest rates to tame inflation, it's full steam ahead despite all these worries in the air that that has been contributing to the financial mess over in the US with our banks. Right. And however much market participants may want to complain about interest rates going up, it's a signal that says nothing that has happened so far is bad enough that we need to go into crisis mode and change our strategy here. Hmm. And what about here in the United States? What is happening today? So today turns out to be a big day for first republic. It has lost most of its stock value this week. It got downgraded by ratings agencies. And at the beginning of today, we thought the best thing that can happen to this bank is that somebody else buys them. And then later on Thursday, the federal government and the biggest banks announced that they're putting $30 billion of deposits into first republic. These deposits are coming from the biggest banks, Bank of America, JP Morgan. And in a deal brokered by the Treasury Department and the Fed, they're going to send these deposits to first republic in order to just express confidence in the bank to stabilize the bank and show its other customers that they don't have to go anywhere. Hmm. Which would be their way of kind of just getting out of this troubled moment. Definitely, it's something that these big banks can do easily. They're essentially sending their own deposits to first republic and just promising not to yank them back right away. And that way, first republic can weather this. And it's a win-win because it helps stabilize the whole system. And hopefully it'll also help calm the stock market down. Right. I also noticed today that while all this is happening, the stock price of the bigger banks in the US, like Bank of America, like JP Morgan, have been extremely stable. And in some cases have been going up a little bit. And that makes me wonder, or maybe it makes me assume that customers of these regional banks who are spooked by what's happening there are taking their deposits and putting them into these much bigger banks, is there evidence that that's been happening? Well, let's just decouple the share price movement a little bit from what depositors are doing. But I think that the story of the biggest banks looking very desirable right now is a story that those banks are absolutely delighted to tell people. Because this is kind of the first time since the financial crisis when being too big to fail is a good thing. But I also want to mention something and this isn't just optics. Bank of America, according to Bloomberg who reported this citing anonymous sources, attracted $15 billion in new deposits just this past week. That means that they essentially benefited from these bank runs. They have pledged $5 billion in deposits for first republic. So think about it, that's pretty comfortable math for them. Big banks have not always been the first choice for a lot of American businesses because they don't treat their small and mid-sized corporate customers with as much high-touch attention that the regional banks have been treating them with. So there was like a real tangible reason why you didn't want to be the customer of the biggest banks unless you were a huge company. And now, instead of the personal care that these companies were looking for, they just want stability. And they want to know that their money isn't going to go poof. And that's a really simplistic way to put it because there are plenty of ways if you're a mid-sized company to manage your cash so you don't get into the problems that the Silicon Valley bank customers had or many of them. Right. And it makes sense that big banks would relish this storyline. And I'm now wondering if we're witnessing in a way the kind of waning days of the regional bank is everything we're talking about here, essentially an existential threat to the very idea of our regional banking system. That's a huge call to make. And I don't think we're quite there yet. First of all, the government, especially the Biden administration, does not want to see smaller banks disappear. I spoke with Maxine Waters of the House Financial Services Committee. She's a congresswoman from California. She's a Democrat. And I asked her, what do you think should happen going forward? And she said, I am not a fan of bank mergers. I don't want this country to be a country that's basically relies on four or five huge banks. And so I think you're going to see a lot of pushback to the idea that regional banks are going away and that the big banks are going to step in. Well, what did she say? She fears if we lose regional banks, if bank of America, Wells Fargo buys up the regional banks. Well, this is a position that many in Congress and in the Biden administration have held for a long time. They don't want to see the biggest banks become so dominant that they can start treating their customers really terribly because their customers don't have any other options. Right. And the image we have of regional banks is that they're on the ground level, right? That they have a personal connection to their clients. They have dinner, perhaps, with their clients. They sponsor local little league teams. That's the idea that's at risk here. Right. I mean, we sort of have like small, medium and large for banks, community banks, which, by the way, want to make sure everybody knows had nothing to do with this. Those are the smallest. Those are the smallest banks. And then you've got your regional banks. And they are not like the big banks in that they still have geographic knowledge and they still have the ability to develop these close personal relationships with businesses that are too small for the biggest banks to really care on the same level. And that's even true for Silicon Valley bank, which banked these startups, some of which were absolutely tiny, you know, 10 people, 30 people. And that's a level of service that big banks don't provide and that made Silicon Valley bank a very important institution for these very small businesses. Right. And now that bank is gone. So to summarize this, a week out, this is not feeling like a crisis that has been tied off quite the contrary. Yep. It's still an open question. I think everybody's still really nervous and we're not going to see things calm down until we kind of get some of the lingering problems off of our plate, whether it's the central banks around the world showing even more clearly than they already started to today with the ECB's interest rate hike that they're still focused on inflation and they're not focused on this, you know, first and foremost. I think that could be a signal for everybody to kind of like move on. But right now we have not moved on to be clear though. There isn't a reason for a regular depositor of a bank to be worried about the state of their money, right? I mean, maybe this is going to sound a little bit like a PSA, but if you're somebody who has money in most any bank in our country, it's generally pretty safe right now. Definitely. This is not a signal to anyone to move their money. And if you're a business with a lick of sense, you've already taken a lesson from what we saw at the end of last week and you've called your banker and said, what are my options? What can I do to feel more secure? And there are many options. There are different things you can do with your money besides leave it in enormous amounts in a bank account. And in addition to that, I think regulators are also alerted to the idea that interest rate risk could be a problem for some of the other regional banks. And they're going to be taking these banks aside one by one and sitting down with them and trying to figure out how to dissipate this risk and minimize it and just make sure that the same fate that Silicon Valley bank met doesn't happen to other banks. The key here is for depositors to not continue to try to yank their money out of these banks. Everyone who tries to do that is just going to make everything worse. Right. Emily, I want to turn to the next big event in this week-long drama. And that's next week when the Federal Reserve Bank in the US is going to meet and talk about raising the US interest rate yet again. We've talked about the debate that's been playing out about whether rising interest rates have contributed to the crisis we're in. By many accounts, it has not really. And the European Central Bank seemed to endorse that message when it raised interest rates in Europe. Do we think the Federal Reserve in the US is going to have the confidence to keep raising interest rates as at his said it would or is the reality that this banking crisis is going to make them think twice about doing that? Well, let me just start out by saying I'm not going to make a prediction about whether the Fed's going to raise rates because I don't know. But if the Fed decides not to raise interest rates at all, I think that's going to be a signal that they think things are really bad. That could get back to the situation where the kid falls over and looks to the adults to see whether to cry and the adults are flipping out. Interesting. Right. I think that if I had to put my money anywhere, I'd probably put it on another rate hike. Whether the Fed decides to kind of make a nuanced decision and make that rate hike a little smaller than they were going to, I don't know. I mean, even that would be a big signal. So we just have to wait and see. Right. Because that would suggest the Federal Reserve needs to make a huge correction in this program it's been up to for a year of raising interest rates to lower inflation, which is a real problem in our economy. So if the Fed does change course, that would suggest they're freaked out, which could in turn freak everyone else out all over again. And we know that that's how they want. That's absolutely right. The government's mission here is really delicate and really complex. They have to continue to carry out their stated plan for managing the economy and inflation and take this moment into account without freaking people out all over again. And that's going to be a really tough needle to thread. Emily, thank you very much. We appreciate it. Thank you, Michael. It's a pleasure. The Federal Reserve is expected to announce whether or not it will raise interest rates when its leaders meet in Washington on Wednesday. We'll be right back. Here's what else you need to know today. On Thursday, French President Emmanuel Macron pushed through legislation to raise the retirement age for most workers from 62 to 64 without a vote of lawmakers in the National Assembly who were poised to defeat it. The decision inflamed and already tense confrontation between Macron and the legislature where shortly after, angry lawmakers banged on their desks and sang a defiant rendition of the French national anthem. Macron's move set the stage for members of the Assembly to hold a no confidence vote against his government in the coming days. And Poland now says it will send four fighter jets to Ukraine to be used in its war against Russia. A move that until now, no NATO country has been willing to make for fear of provoking Russian retaliation. Even so, the planes Russian made MIG fighter jets fall short of Ukraine's requests for more advanced F-16 fighter jets from the U.S., which the Biden administration has so far refused to send. The day's episode was produced by Ricky Nefetsky, Mary Wilson and Jessica Chung. It was edited by Lexi Diao and Paige Cowatt, contains original music by Mary and Luzano and was engineered by Chris Wood. Our theme music is by Jim Brunberg and Ben Landford of Wonderland. That's it for the Daily. I'm Michael Barbaro. See you on Monday.