bank run blog

Last week saw stories flooding in through every porthole of the mainstream and business media about all the tiny, hopeful signs that the worst might be over for the US economy. Meaning that the large banks had avoided publicly declaring their insolvency for yet another quarter, aided by trillions in free Fed funds, billions in Treasury TARP dollars, and new, relaxed accounting standards under which the big four actually will have the audacity to post “profits”.

But the tide of happy talk has receded for the moment, as analysts suddenly remembered the tsunami of credit defaults still to come. According to Bloomberg News :

“U.S. stocks declined following six straight weeks of gains as concern grew that credit losses are worsening and lower commodity prices dragged down energy and material producers.

Bank of America Corp., the lender that lost three-quarters of its market value in the past year, tumbled 16 percent as rising charge-offs for uncollectible loans overshadowed better- than-estimated earnings. Citigroup Inc. dropped 15 percent after Goldman Sachs Group Inc. said the bank’s credit losses are growing at a ‘rapid rate.’ U.S. Steel Corp. and Exxon Mobil Corp. declined as oil and industrial metal prices decreased.

‘The market seems to follow the direction of financial stocks one way or another,’ said Keith Wirtz, who helps oversee $20 billion as chief investment officer at Fifth Third Asset Management in Cincinnati. ‘There are definitely more writedowns ahead and more challenges for the loan portfolios, particularly in the consumer side of the equation.’”

After sending a couple of ward heelers out in the rain to the Sunday shows to deny that the banks will be nationalized, the Obama administration leaked to the New York Times that another round of stealth nationalization is already underway :

“President Obama’s top economic advisers have determined that they can shore up the nation’s banking system without having to ask Congress for more money any time soon, according to administration officials.

In a significant shift, White House and Treasury Department officials now say they can stretch what is left of the $700 billion financial bailout fund further than they had expected a few months ago, simply by converting the government’s existing loans to the nation’s 19 biggest banks into common stock.

Converting those loans to common shares would turn the federal aid into available capital for a bank — and give the government a large ownership stake in return.

While the option appears to be a quick and easy way to avoid a confrontation with Congressional leaders wary of putting more money into the banks, some critics would consider it a back door to nationalization, since the government could become the largest shareholder in several banks.”

Unfortunately for Lawrence Summers and his umbrella-holder Timothy Geithner, focusing on the banks is a great strategy for 2006. The damage from the financial sector’s overflowing bathtub has now caused mold downstairs in the broader economy.

Even if the banks are eventually stabilized through zombification, the lobbyists and their politicians haven’t yet even considered lifting a finger to fix all the leaky dikes. The Associated Press reports :

“The Conference Board said Monday that its monthly forecast of economic activity fell 0.3 percent in March and has not risen in nine months. Economists surveyed by Thomson Reuters expected a 0.2 percent decline.

And without the government’s intervention in the economy, boosting the money supply and tamping down interest rates, analysts said the forecast likely would have been worse.

The index is designed to forecast economic activity in the next three to six months based on 10 components, such as stock prices, the money supply, jobless claims, new orders by manufacturers and building permits.

The index for February was better than previously reported, falling 0.2 percent instead of 0.4 percent. But it was revised lower in January to a 0.2 percent decline, instead of a 0.1 percent increase.”

Bloomberg : U.S. Stocks Tumble as Financials, Commodity Shares Retreat

New York Times : U.S. May Convert Banks’ Bailouts to Equity Share

Associated Press : Leading economic indicators dip more than expected

The Federal Reserve reports that the nation’s banks have tightened lending standards across the board for all types of loans responding to both delinquencies and a slowing economy. The Fed said that a survey of federal banks revealed, “domestic institutions reported having tightened their lending standards and terms on all major loan categories over the previous three months.” About 75 percent of institutions polled said that they had tightened lending practices on all types of loans, including home mortgages. Bloomberg reported;

“Funds were scarcer for homebuyers and small businesses, credit card loans became tougher to get, and even banks’ best customers were subject to greater scrutiny. Tighter credit may delay any recovery in economic growth, which economists forecast will slow well into next year.”

Bloomberg reports that since the Fed began lowering interest rates last year, rates that banks charge for home loans have actually increased. The Fed has cut its main lending rate by 3.25 percentage points over the past year to 2 percent while banks are charging homeowners 6.52 percent on a 30-year mortgage as of this month. Bloomberg writes;

“Banks may be reluctant to lend against housing collateral that is falling in value. Home prices in 20 U.S. metropolitan areas dropped 15.8 percent in May, the biggest decline since record keeping began in 2001, according to the S&P Case-Shiller Home-Price Index.”

Banks also tightened their lending standards on non-mortgage loans with 60 percent of the polled institutions reporting that they have increased interest rates on credit card loans, up from 30 percent earlier this year.

see story-
Bloomberg : Fed Says Banks Toughen Lending Standards Amid Slump

In a predictable but unfortunate response to the collapse of the securitized debt market that they themselves created, banks are now “tightening their lending standards,” or, more accurately, suspending all lending activity while they chase short profits and try to replenish their reserves. This is bound to have an immense impact on the US economy, which has been built on easy access to consumer credit. The Associated Press is reporting tonight that the Federal Reserve finds deepening credit crisis :

“More banks are tightening lending standards on home mortgages and other consumer and business loans as a deepening credit crisis exerts a heavier toll on the economy.

The Federal Reserve said Monday the percentage of banks reporting tighter lending standards rose across various loan types in its July survey. In April, the central bank had found that the percentage of banks reporting tighter lending standards was already near historic highs.”

The AP article notes that all areas of consumer credit have been affected :

“For home equity lines of credit, 80 percent of the banks surveyed said they had tightened their lending standards in this area.

For credit cards, the percentage of domestic banks reporting tighter lending standards was about 65 percent, more than double the 30 percent who reported they were tightening lending standards for credit cards three months ago.

Analysts said that the big jump in higher standards for credit card debt could represent a serious threat to the already weak economy, given that consumer spending accounts for two-thirds of total economic activity.”

A piece in the Financial Times quotes a US analyst who recognizes that the third and fourth quarter are unlikely to yield the “modest recovery” the Fed predicted at the beginning of the year :

“’Coming at a time when the cash flow from the rebates has dried up and the growth in labour income is slowing to a crawl, the restriction in lending to households underscores the challenges facing the consumer in the second half of the year,’ said Michael Feroli, a US economist at JPMorgan.”

Associated Press : Federal Reserve finds deepening credit crisis

Financial Times : Tighter rules dash hopes of end to squeeze

The markets have accepted the huge first quarter losses in the financial sector with equanimity, apparently relieved that things weren’t even worse. Outside the financials and banks, earnings reports have been better than expected, with GE’s losses the only significant unpleasant surprise. Yesterday the Associated Press looked forward to the consumer discretionary related earnings reports due out over the next few weeks :

“But the coming week might change the market’s dynamics, as a string of consumer-oriented companies including electronics stores and food companies are scheduled to release their results. Wall Street is worried about slowing consumer spending, and these companies might give investors their best indication yet about how much Americans are willing to spend these days.”

full story

A column in the New York Times pondered the market resiliency, locating at least a few analysts who feel that the recent trends don’t comport with the underlying fundamentals :

“Small-cap stocks, meanwhile, are actually holding up slightly better than big, blue-chip shares. Since the start of the year, the Standard & Poor’s 600 index of small stocks has lost 3.5 percent of its value, while the S.& P. 500 index of blue chips is down 4.8 percent.

And as for defensive plays like health care? That sector has lost nearly 11 percent, on average, since the start of the year. Consumer discretionary stocks, on the other hand, have lost less than 3 percent. ‘It is puzzling to me that the consumer discretionary part of the S.& P. 500 is beating the index,’ Mr. Orndorff said. ‘We are in a recession and consumer spending is slowing, so it should stand to reason that these stocks would do poorly.’”

full story

Typically, the British financial press is out in front of US journalism on the prognosis for the global economic crisis that started in New York. Today’s Sunday Times says Forget 2008. Next year is the one to fear :

“Take last week, for example. Boeing, Amazon, Apple and Volkswagen all produced strong growth in quarterly earnings, a welcome relief following the gloom that descended on Wall Street after General Electric’s profit warning a fortnight ago. One view is that there is enough momentum in order books to sustain earnings for this year, particularly for companies, such as aerospace group Rolls-Royce, with strong exposure to Asian markets. Industrial stocks also look like weathering the immediate storm.

The concern is what will happen next year. As Sir Martin Sorrell, chief executive of advertising group WPP, said last week: ‘When will the real world start feeling the slowdown’s effect? My feeling is that it is 2009 when the rubber really hits the road.’”

full story

The International Herald Tribune carried an analysis today of the trend under the Bush Justice Department to cut deals with corporate criminals that allow them to skirt criminal penalties and never admit to wrong doing and a fear that many of the corporate players who committed crimes over the past few years during the run up to what is now referred to as the subprime crisis may be offered such deals. The IHT said, “The growing use of deferred prosecutions…suggests one road map the Justice Department might follow in the subprime mortgage investigations.”

The IHT reports that 50 companies suspected of wrongdoing over the last three years have been offered sweetheart deals instead of being indicted on criminal charges; “so-called deferred prosecution agreement(s), which allow the government to collect fines and appoint an outside monitor to impose internal reforms without going through a trial. In many cases, the name of the monitor and the details of the agreement are kept secret.” The IHT describes the typical deferred prosecution agreement;

“In general, such agreements result in companies acknowledging wrongdoing by not contesting criminal charges, but without formally admitting guilt. Most agreements end after two or three years with the charges permanently dismissed.”

Corporations, including Merrill Lynch, the Bank of New York, AmSouth Bank, KPMG, American Express Bank International and Monsanto “have avoided the cost and stigma of defending themselves against criminal charges” with deferred prosecution agreements. The IHT writes that the Justice Department may choose to use such agreements as the FBI moves forward with the “17 open inquiries into accusations of corporate fraud in connection with the subprime scandal.” The IHT said that the trend in favor of offering deals to white-collar criminals instead of prosecuting them criminally;

“has led to increased speculation about how the Justice Department might use the agreements in investigations against financial companies in the mortgage lending scandal, which has become a top law enforcement priority for the department.”

Not only is the prospect that criminal charges may never be filed by the Justice Department a very real possibility, but the government’s use of the agreements themselves may have in part helped to foster an atmosphere of lawlessness in the financial industry. The IHT reports that “some legal experts now wonder if the policy shift has led companies, in particular financial institutions now under investigation for their roles in the subprime mortgage debacle, to test the limits of corporate anti-fraud laws.”

see article:
International Herald Tribune : Leniency for big corporations in the U.S.