“The reality is that the financial system has been operating as if it were an off-balance-sheet vehicle of the government. Private-sector companies and individual bankers have been making huge profits in the bubble. Their risk appetite has been enhanced by previous bail-outs and, in the case of Fannie and Freddie, by the government’s implicit guarantee. Yet their market pricing does not reflect the potential cost to the system of their own collapse.”
John Plender, “Capitalism in Convulsion: Toxic Assets Head Towards The Public Balance Sheet” published in the Financial Times, 19 September 2008.
OK agreed…something very exciting has been going on in the model of Western capitalism, at least in the US which will probably have to reconsider it’s claim to be the bastion of free market capitalism.
In case anyone forgot, back in 1933 commercial banks (i.e. the ones that take deposits from Joe Public) and investment banks (i.e. the ones that create financial instruments for primarily institutional investors) were required by law in the US, to keep their operations separate. The excesses of the investment banks via over-leveraging and speculation was one of the reasons for the stock market crash in 1929 and the start of the Great Depression.
Back to the present, at last count, 3 of the 5 biggest investment banks in the US have gone: 2 by self-sacrifice, Bear Stearns and Merrill Lynch; and one by insolvency, Lehmann Brothers, whose operational entrails are now being picked by Barclays Bank PLC and Nomura
The remaining 2, Morgan Stanley and Goldman Sachs have been offered the status of “bank holding companies”, allowing them to take deposits from Joe Public. Funny how history repeats itself. Once again, investment banks are morphing into commercial banks……
….and for 2 good reasons (at least for them): First, they will have access to Federal funding should they find themselves in a distressed situation again. Secondly, garden variety retail deposits, boring and predictable as they are, constitute a stable source of capital. It’s now clear that over the last few months, investment banks saw a massive erosion of their capital base when they were forced to bring in Off-Balance Sheet debt instruments over which they had no hope of getting paid.
Or to put it another way, Joe Public stands to fund Morgan Stanley and Goldman Sachs privately, via his retail deposits; and publicly as an over-indebted taxpayer through government largesse.
But the investment banks have to pay a price. First, a reduction on leveraged finance and debt ratios. Second, a submission to greater governmental regulation. Third an obligation to separate retail deposits from capital market activities.
What does all this mean in practice? With their newly re-capitalized status, expect Goldmans and Morgan to go on a predatory spree to acquire small distressed commercial banks – of which there must be lots.
Although the figures for bailouts have been gargantuan, the lesson for SMEs remains easy to digest. If your Balance Sheet is riddled with debt that you have no hope of collecting, your cash flow dries up, your capital base erodes and you go out of business.
And the government couldn’t care less.
© 2008 Sanjeev Aaron Williams All Rights Reserved
John Plender, “Capitalism in Convulsion: Toxic Assets Head Towards The Public Balance Sheet” published in the Financial Times, 19 September 2008.
OK agreed…something very exciting has been going on in the model of Western capitalism, at least in the US which will probably have to reconsider it’s claim to be the bastion of free market capitalism.
In case anyone forgot, back in 1933 commercial banks (i.e. the ones that take deposits from Joe Public) and investment banks (i.e. the ones that create financial instruments for primarily institutional investors) were required by law in the US, to keep their operations separate. The excesses of the investment banks via over-leveraging and speculation was one of the reasons for the stock market crash in 1929 and the start of the Great Depression.
Back to the present, at last count, 3 of the 5 biggest investment banks in the US have gone: 2 by self-sacrifice, Bear Stearns and Merrill Lynch; and one by insolvency, Lehmann Brothers, whose operational entrails are now being picked by Barclays Bank PLC and Nomura
The remaining 2, Morgan Stanley and Goldman Sachs have been offered the status of “bank holding companies”, allowing them to take deposits from Joe Public. Funny how history repeats itself. Once again, investment banks are morphing into commercial banks……
….and for 2 good reasons (at least for them): First, they will have access to Federal funding should they find themselves in a distressed situation again. Secondly, garden variety retail deposits, boring and predictable as they are, constitute a stable source of capital. It’s now clear that over the last few months, investment banks saw a massive erosion of their capital base when they were forced to bring in Off-Balance Sheet debt instruments over which they had no hope of getting paid.
Or to put it another way, Joe Public stands to fund Morgan Stanley and Goldman Sachs privately, via his retail deposits; and publicly as an over-indebted taxpayer through government largesse.
But the investment banks have to pay a price. First, a reduction on leveraged finance and debt ratios. Second, a submission to greater governmental regulation. Third an obligation to separate retail deposits from capital market activities.
What does all this mean in practice? With their newly re-capitalized status, expect Goldmans and Morgan to go on a predatory spree to acquire small distressed commercial banks – of which there must be lots.
Although the figures for bailouts have been gargantuan, the lesson for SMEs remains easy to digest. If your Balance Sheet is riddled with debt that you have no hope of collecting, your cash flow dries up, your capital base erodes and you go out of business.
And the government couldn’t care less.
© 2008 Sanjeev Aaron Williams All Rights Reserved
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