Banks Problems and the Economy

We spoke recently about banks and the problems they are facing.

Bank's unhealthy financials are leading to massive bank closures in the US
Bank's unhealthy financials are leading to massive bank closures in the US

Let’s dig a little deeper into those.  The FDIC closes banks down every Friday, and we are at a record pace of banks failures so far this year.

Each Friday night that the FDIC goes in to close a new bank, it is found that the assets of the bank are far less than what is reported on the bank’s financials because the bank does not have to mark their assets to market.  One study found that all banks nationally had assets that were overstated by 30%.  (The banks looked at in this study had assets worth 50% less than stated, but the author assumed that nationally the numbers would be a little healthier.)

As the FDIC gets more manpower to close all the banks on the brink, many more will close.  The banks that are left are far less healthy than they appear by looking at their financials.  And these banks aren’t lending as they should be because they know that they are far less healthy than they are reporting.

Meanwhile, the US Government is offering them free guaranteed profits by lending them money at close to 0% (through the Federal Reserve) and allowing them to turn around and lend it back (to the Treasury) at 3-4% in Treasury Bonds.  There is no risk in this transaction and banks can do this as much as they want.  And guess who else wins?  The government is able to get massive inflows of new Dollars lent to them at the Treasury auctions which allow the government to spend money which they created out of thin air without having to call this spending “Quantitative Easing” (QE is what it is called when the Federal Reserve directly buys Treasury bonds which they also do.)  The same thing (QE) is happening except that the government is paying banks a commission for washing the money for the Government.  Does this sound like the mob to anyone else?

Why should banks make risky loans to the public when they know that their current assets are desperately hurting and they can make new loans at a guaranteed profit?  They are not.  This is the problem.  Banks themselves are desperately in danger of going out of business.  The government is propping them up.  And these banks are not performing the function in society which they are intended to carry out.  This means trouble for the banks, and trouble for the economy.

When we discuss problems in the real estate market, keep in mind that real estate loans are the biggest asset of most any bank.  These are completely interrelated, so as you see the problems with one, they lead directly to the problems at the other.  This cycle can be vicious.

Photo credit: shockmotion

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