Wednesday, September 21, 2011

The Markets Are Failing

And, of course, the sole reason is that our Federal Reserve and other central banks aren't printing enough money. Or that governments won't help the big banks. Or both. Probably both. As a NYTimes article says:
"It is the fear that governments may not ride to the rescue that seems to have unnerved markets."
Ah, so now we have it. The government is no longer forming a (nearly nonexistent) safety net for the banks - the same banks that make risky investments on purpose, overextending themselves and keeping little money actually in hand so they can make more money, and then depend on the taxpayer when they inevitably begin to fail.

The fact is that, if banks would make better business decisions, they would have nothing to worry about. If they would just learn to say "no" when a risky investor came along, they would get into far less trouble. Sadly, the profit motive is too much of...well, a motive. But I see no reason why they shouldn't pay the price.


Tragedy101 said...

How does a national bank fail?

Liberty said...

By making so many risky investments that, when a bubble bursts, it is unable to compensate for the sudden demand on resources it doesn't have.

Now, if you're talking about the central bank known as the Fed, it is merely kept afloat by the fact that it is backed up by the federal government is issued government IOUs to print more money.

Tragedy101 said...

How does a bank get those "resources" or from where do these bank "resouces" come?

Currency is issued by the government in the form of loans to banks. The banks agree to government oversight of these loans in the form of banking regulations. When government banking regulations force a bank to invest in risky investments, this is... well, not a profit motive.

In cases where the government has forced risky investments by banks, why should the banks pay the price?

Solomon said...
This comment has been removed by the author.
Solomon said...

Banks don't pay the price, people do. Smaller banks are simply minions of the Federal Reserve-which isn't a federal entity to begin with. The print "our" "money" then the gov't borrows it, our income taxes go to pay the interest on those loans. The banking regulations in place are designed to keep the rich rich-no one is actually a loser if you can be bailed out of bankruptcy by the Fed. Oh wait, we lose-every time we pay income taxes.

Simple answer to failing markets- END THE FED, restore the Gold Standard, allow free markets to be free.

P.S.-Kennedy attempted to restore the Silver standard...

Liberty said...

I'm not saying it's wholly the fault of the banks. I know there's a whole pantheon of governmental intervention that makes banks even worse off than they would be by themselves.

But at the same time, banks know that the more loans they make, the more money they will get. So they make more loans, often over-extending themselves and actually loaning out more money than they're receiving in assets. They don't do that because of governmental oversight; they do that because they want to make money. They know they can do this because the virtually bankrupt FDIC, through the Federal Reserve, will bail them out, making it so that they do not fail...particularly if they're a large bank with many lucrative, "important" loans on tab.

I don't know what cases you're talking about, where banks have gone into bankruptcy and default because of the government. Most of the banks seem to have brought it mostly upon themselves, including institutions like Fannie Mae and Freddie Mac. Unsound business practices have their consequences.

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Tragedy101 said...

Which of the institutions you have cited is no longer around? Have any of them actually failed and gone away?

Liberty said...

They would have actually failed and gone away if the Fed hadn't printed an endless fountain of money for them. Which was, of course, the whole point of this post.

suntzusays said...

National bank failures do happen, and happened quite a lot a couple of years ago.

The largest was Wamu in 2008. They were bought up by another bank, which is essentially what would have happened to the even larger banks that were in bad shape had nobody done anything, portions of Citi or BoA would have been split up and sold.

What the FDIC mostly does is act as receivership until the bank (and its contracts) are bought up to insure the depositors money.

Generally speaking, when a national bank fails under the current banking regime, the bank goes away as an independent business but its assets and deposits (and most of its debts) do not. Those are purchased by other companies. This is true both under the current regime, and to an only slightly less extent, through the previous regime. What the current system does have as an advantage is that the transfers happen with fewer local banks runs and panics. But the end results are essentially the same.

suntzusays said...

As far as the Fed, yes they printed a lot of money, and yes several large banks have horded it, but the Fed could very easily have printed a lot of money and not let the banks horde it. It has that power through issuing interest rates on excess reserves for example. It could effectively tax them by placing negative interest rates on those reserves. It hasn't. What your post is trying to get at is why, I think.

What you're getting wrong is what the banks are doing with it now. They're not using it to make silly loans. They're hording to make their balance sheets look better for recapitalisation purposes. A good argument can be had that the same banks which made poor decisions that now require recapitalisation should not deserve assistance. But another good argument can be had that the Fed's failure to act in 2007-08 to falling inflation expectations caused some of the banks to get into the mess (though some obviously still deserve to be allowed to fail).

Despite unleashing what seems like a ton of cash, it actually hasn't been fulfilling its essential purpose of targeting 2% inflation (the Fed actually has a dual mandate to help keep unemployment down too, but hasn't been doing much there either). It's been missing it on the low end for over two years now. The story of most modern financial and economic disasters is usually told in a central bank's failure to act, not the other way around. This time doesn't seem to be much different from say, 1929, 1937, or even the mid-80s recession-to-boom cycle caused by Volcker.

The essential question to ask however is the same: why does it fail? I'm not sure the simplicity of the Fed is in hoc to the private banking sector is enough. The private banking sector ought to benefit more from a more vigorous economy in which it can make lots of loans than from a sluggish economy in which it hordes cash reserves. Banks can make plenty of money even on solid low risk loans because they can keep loaning it back out to others, far more than they're making from pitiful interest rates from the Fed.

But perhaps maybe the bankers are dumber and more short-term focused than I am.