We have a Banking Pandemic
In almost every newspaper you will see nice pictures of bank CEO’s and their senior colleagues in smart suits and with neat hairstyles telling us how they will solve the Corona Crisis. They are also telling us how they are coping personally because we are led to believe that they are doing “God’s Work” as a former Goldman Sachs CEO once claimed.
There is so much wrong with the banking system today that we should call it a Banking Pandemic because it is a global thing that is really a gift of gold to the banks and financial service companies from taxpayers.
The consolidation in every region of the globe of fewer and bigger giant banks, and the concentration of financial power in huge financial service institutions like BlackRock, BlackStone, Vanguard, PIMCO and institutional investors like Warren Buffett’s Berkshire Hathaway has led to a huge shift of power from the public to the private financial sector.
How banks game regulations
Banks in the US, in Europe and in the Nordic countries are receiving enormous extra profits from taxpayers without any properly negotiated “quid pro quo” and that is wrong.
We need to balance the balance of power, but first we must examine what has been going on with banks these last two decades. The following explanation is simplified because banks are now subject to complex regulations and rules that are almost impossible for outsiders to follow.
Banks must keep cash reserves that must be kept as deposits with the central banks, and they also hold short term government bonds. New regulations have increased the size of these reserves and the amount of equity banks must maintain to keep them safe. Central Banks are there to hold bank reserves, and ensure the smooth and uninterrupted functioning of the financial markets. Regulators are meant to watch over the whole system but they suffer from being too slow for agile bankers who want to maximise profits from what should be regarded to be a public good, and that is bad.
Every time there is a crisis, the big banks stop providing liquidity because they do not want to suffer losses from holding assets that they see as becoming more risky. Banking is a herd game and they normally move together. When things turn tricky they either sell these assets, or let them mature without buying new ones. This ends up with the markets for corporate and bank liquidity freezing up, interest rates rise and the banks demand that the central bank (taxpayers) should step in and provide liquidity.
The central bank can do this by the following:
- They can lend cash to the banks, or
- They can buy short-term government bonds from the banks, or
- They can ease cash reserve requirements for the banks thus freeing up some of the deposits held at the central bank, or
- They can buy short term debt like commercial paper (CP) from the banks. CP’s are short term debt instruments issued by mainly big companies through CP programs managed by banks. The banks promise to maintain liquidity when they sell these programs to these companies, but when a crisis comes banks stop maintaining liquidity and markets freeze quickly because investors and issuers must go through banks.
The banks demand this cash so they can buy new assets or lend more money to customers. The banks demand this cash by claiming, quite improperly, that they are the key players to save economy from disaster. The big banks claim that they are the cornerstone keep big companies afloat. This is not true because statistics show quite clearly that around a maximum of 30% of the bank’s balance sheets go to companies, the rest goes on mortgages and “liquidity” a euphemism for making money in many different ways. In the US and in the UK this figure is much lower at around 15% being lent to companies, and most of that is for mergers and acquisitions.
How banks make unearned profits
In the present Corona Crisis there are 2 new unsatisfactory policies that can be found in Finland from the present government and central bank.
The Central Bank has announced that it will start to buy from the banks up to €500 million of commercial paper issued by big Finnish companies. This is a gold mine for the banks who just buy CP’s from the big companies and sell them to the central banks for a nice profit – easy as pie, and no risks. The banks will probably book a normal profit of at least €250 000 on these trades over the coming few months.
The other policy is the new one from the Finnish government. It has announced that government guarantees can be provided by the government’s credit institutions for €10 billion loans from banks to SME’s small and medium sized companies. The government is trying to ensure that SME’s do not go bankrupt when they must close their doors because of the Corona virus. SME’s and start-ups are the backbone of the economy. They employ more people than big companies and grow faster too. Many of them no longer have income from customers because they must close down.
This is true for thousands of companies in service sector and in the supply chain of big companies. If they have no income from now on then how does the government expect them to pay for expensive loans at a later date. The banks do not offer low cost financing with these guarantees. The margins are rich and the money has to be paid back with interest! The banks will go for the highest possible margins to maximise their profits on this some €10 billion in new loans which could yield at least an extra $100 million to their bottom line each year without any risk… The government is taking the full risk on its balance sheet without any quid pro quo from the banks… for which they very quietly thank the government. they have a great lobby organisation. Soi while banks get to create a new risk free cash flow, their customers must do without and repay these loans with interest from future cash flow if any!
Of course it makes more sense for the government to lend the money directly? This is not a business deal but a policy to stop small companies from going bankrupt during the next few weeks ¨because money has run out…
Naturally the banking lobby does not like that type of suggestion because it creates “unfair” competition according to them.
It is a fact is that only 3% to 4% of total bank balance sheets are loans to the SME sector. Banks are not that interested in small clients and especially those whose only collateral is the stuff between their ears. Many SME’s will go under sooner or later because they are not strong enough to be customers for the banks in the first place and they will not get any financing from this source money to shore them up.
The government really does need to provide faster and more direct support for small companies and single entrepreneurs. These are seldom able to put something to the side for a rainy day, and now it is not just raining there is a terrible hurricane going on.