The Looming Bank Collapse

https://www.theatlantic.com/magazine/archive/2020/07/coronavirus-banks-collapse/612247/

by sajid • 6 years ago

135 134 6 years ago

empath75• 6 years ago

I ran my finger across the page to see the total for these investments, investments that Powell and Mnuchin have asserted are “outside the banking system.”
The total is $29.7 billion. It is a massive number. And it is inside the bank.

What percentage of Wells Fargo's assets is that? It looks they they've 1.9 trillion in assets, so even they were worth nothing, would it have a material impact?

tvb12• 6 years ago

The banks themselves may reveal that their CLO investments are larger than was previously understood. In fact, we’re already seeing this happen. On May 5, Wells Fargo disclosed $7.7 billion worth of CLOs in a different corner of its balance sheet than the $29.7 billion I’d found in its annual report.

There might be more?

solatic• 6 years ago

It doesn't matter if the banks crash again if the Fed will just bail everybody out again and push stock market inflation even higher than it is now. It's clearly unsustainable, but the question is, how and why will the bubble burst?

The author posits one option, of political intervention precluding another bailout. But the Federal Reserve is non-political precisely to shield it from attempted short-term political machinations. Congress will complain to the cameras and the Fed will go right back to "rescuing" the market.

No, the bottom will only well and truly drop out when there's significant capital flight - when the dearth of real investment opportunities relative to currency glut becomes so acute that capital leaves American borders in search of real return. But to where? And under which circumstances?

Answerawake• 6 years ago

But to where? And under which circumstances?

Can you give some guesses? I don't see any other place that would seem more attractive than the US. Every other place has its own problems whether it be lack of developed human capital, unstable government systems, etc. Maybe in the distant future if Mars transportation takes off that can be the next big thing?

devalgo2• 6 years ago

Short of saying that a hyper inflation event in the US would probably break civilization and so allocating capital is irrelevant at that point, isn't the obvious answer Bitcoin or other crypto assets?

mdorazio• 6 years ago

Think you nailed it. The thing is, in order for capital flight to be a risk there needs to be somewhere else of comparable size and upside opportunity to the US that doesn't rhyme with "China" and it sure as hell isn't Europe. So we're back to square one in which absolutely massive sums of money are chasing returns with nowhere else to put money than the same places it already is. It's madness on a global scale.

clairity3• 6 years ago

i mean, globalism was always about helping capital find returms while hedging risk, under the guise of international trade being better for all than isolationism (but much better for capital than labor).

the core problem of hoarding wealth, as exhibited by the flight of capital to the US, is the inability of small groups of people to efficiently allocate capital, to have enough imagination and ingenuity to centrally-plan their allocations. it's literally anti-capitalist.

burlesona• 6 years ago

This is the insanity of zero interest rate policy. It’s so hard for me to understand why the economists and fed officials don’t see this.

devalgo2• 6 years ago

but the question is, how and why will the bubble burst?

I'd take the Black Swan approach. There are probably a dozen each unlikely events that could cause the bubble to pop but you're unlikely to actually predict which one will do it and when it will happen. Your optimal move is to assume something is going to happen at some point and just hedge yourself against that rather than try to predict. Taleb gets called an oracle but his entire philosophy is not to predict rare events that destabilize a system but just accept they will eventually happen and prepare accordingly

In this case having some portion of your net worth in BTC/Crypto seems like an obvious hedge

throwaway1777• 6 years ago

Yeah, until there’s a better market to invest in than the US or an attempt to dethrone the dollar as the reserve currency I don’t see anything changing no matter what the fed does with QE and bailouts.

ed25519FUUU• 6 years ago

Buried lede warning.

But there’s another threat to the economy, too. It lurks on the balance sheets of the big banks, and it could be cataclysmic.

(10 paragraphs later)

I ran my finger across the page to see the total for these investments, investments that Powell and Mnuchin have asserted are “outside the banking system.”

The total is $29.7 billion. It is a massive number. And it is inside the bank.

kerkeslager3• 6 years ago

The federal government stepped in to rescue the other big banks and forestall a panic. The intervention worked—though its success did not seem assured at the time—and the system righted itself. Of course, many Americans suffered as a result of the crash, losing homes, jobs, and wealth. An already troubling gap between America’s haves and have-nots grew wider still. Yet by March 2009, the economy was on the upswing, and the longest bull market in history had begun.

This paragraph is conceding a point that should not be conceded. The system did not right itself if many Americans lost homes, jobs, and wealth. 12 years later, not everyone has recovered from the 2008 collapse.

lazide• 6 years ago

What criteria should someone use to judge 'righted itself'? No event can ever be completely undone, merely compensated for. Many of the people who lost homes should never have bought them leading up to '08 - they only were able to because of unrealistic (and sometimes predatory) underwriting standards and financing that NEVER would have worked out, and blew up shortly thereafter once the people bankrolling it figured out what was going on.

The overall economy recovered, but of course it looked a bit different. It was 4-5 years later.

Klinky• 6 years ago

Mortgages should have been heavily renegotiated, bailout given to the home owners to pay back the mortgage in a bottom-up bailout. Let's throw in existing homeowners as well, who had made proper payments in the mix, so they get some benefit from the situation.

Instead lots of money handed over to banks to fix their books and toxic assets handed over to the .gov. Lots of people losing their homes and jobs, no one in the financial sector really seeing any jail time or penalty for their malfeasance. Much of the financial sector actually made off quite well during/after the crisis.

We're seeing it again with big businesses getting COVID bailouts, meanwhile politicians are wringing their hands that unemployment insurance benefits are "too high" and "main street" needs to get back to work. Make sure "main street" is held accountable and/or penalized, but it seems there are a lot of golden parachutes and soft landings for big business and the finance industries.

kerkeslager3• 6 years ago

1. I don't think the system "righting itself" for all parties was ever a possibility. The capital to both pay the mortgages AND let the borrowers continue to own their houses simply did not exist.

2. You're looking at this from a perspective of blame. I recently took out a fairly large loan for a purchase myself, and even as a smart, educated person, it was difficult for me to find insight into what a reasonable monthly payment might be. Lenders have far more information than borrowers do. I think if we're going to place blame for the financial crisis, that blame has to be shared, but I think simply based on the information available to the parties involved, we have to place the blame primarily on the lenders, who have far more information and context than the borrowers do.

3. However, I think blame is fundamentally the wrong way to look at this. To me, the entire point of having an economy is to provide people with a better standard of living. If the economy ceases to perform that function, any intervention by the government should be geared toward causing it to perform that function again. Instead, the bailouts were aimed at improving a few myopic metrics, metrics which only benefitted the already wealthy. The problem isn't that the bailout didn't punish the right people: I'm not interested in punishment. The problem is that the bailout made America a worse place for almost everyone.

thephyber8• 6 years ago

This line struck me as odd:

and the system righted itself

I suppose maybe it depends what "the system" refers to, exactly. If it's the same bankers who shape the financial system and the banks who all own part of the Federal Reserve which printed money to put price supports under their worst assets, then sure, "the system" "righted" "itself".

But in the end, there is no right or guarantee that every person will get a job, be able to keep a house, or will not lose wealth. And we should remember that about our future when reading this piece.

kerkeslager3• 6 years ago

But in the end, there is no right or guarantee that every person will get a job, be able to keep a house, or will not lose wealth.

That's true for most people, but it's simply not true for the wealthy in practice. The government did try to make an example of a few players in the 2008 collapse, but for the most part, the message sent by the handling of the 2008 crisis was that if you're a big enough company and you take a risk that doesn't pay off, the poor and middle class will be forced to subsidize your mistake.

nknealk• 6 years ago

I have a checking account and a home mortgage with Wells Fargo; I decided to see how heavily invested my bank is in CLOs. I had to dig deep into the footnotes of the bank’s most recent annual report, all the way to page 144... The total is $29.7 billion. It is a massive number. And it is inside the bank.

To put $29.7B that into context -- Table 4 of the most recent 10K says that Wells has ~1.7 trillion dollars of earning assets. Tables 1 & 2 indicate they hold around 180B of shareholder capital buffer.

thephyber8• 6 years ago

Your appraisal seems fair... of the data you are working with.

But how many other financial instruments they own are tied up in CLOs on the books of other banks?

The whole point of The Big Short and Margin Call was that the banks aren't resilient, independent silos. When one bank shakes or falls, it can impact the neighboring bank which causes a domino effect. They all invest in slices of the things that the other banks invest in, they all do it with lots of leverage, and they all think they've hedged against the downside risk, but that still didn't prevent the 2008 collapse.

clairity3• 6 years ago

that's literally herding behavior, which is the loss of independence among market participants, so that risks start to align, rather than cancel each other out.

it's disgusting that we haven't learned anything from 2008.

chishaku3• 6 years ago

That's not the correct context. What does that $29.7 billion represent in counterparty or systematic risk?

missedthecue6• 6 years ago

Do you know what a CLO is...?

thephyber8• 6 years ago

I've long read about the following still being a problem (post-2009):

- CDOs (although a new generation of them have a new name/initialism)

- Frank/Dodd was partially rolled back

- The definition of bank size-classes was changed to reduce the regulatory burden over most regional banks that were previously more regulated

- No significant adverse event happened after Standard & Poors was identified as having significantly inaccurate ratings on CDO / mortgage bond

- moral hazard all over the financial sector, multiplied by large QE rounds

- shadow inventory of housing (not sure if this was sold off or if banks still hold lots of houses off the market)

- lots of private unicorns have opted not to try to go IPO, despite Wall Street records over the past few years

(edit: I converted the indented list to individual paragraphs)

But given these assumptions, are the US financial markets really that healthy? It still feels like we have a few asset bubbles, especially in the assets which QE propped up.

yodon• 6 years ago

As a head's up a huge fraction of HN's readers read on mobile where code formatting like you used here makes posts unreadable.

thephyber8• 6 years ago

Yes, I've heard, but there isn't a suitable replacement format that I've seen for a bulleted list.

The formatting doc[1] is very short and doesn't include a list.

[1] https://news.ycombinator.com/formatdoc

gridlockd4• 6 years ago

It's not a bubble, it's price inflation. Assets are fairly priced with a looming collapse of the dollar value in mind.

thephyber8• 6 years ago

I'm not sure I agree with the terms you are using.

I get the difference between what is usually called a "bubble" and what is usually called "inflation", but I don't think you can accurately identify a bubble until it has already burst and you do it in retrospect.

"Fairly priced" is strange because every transaction is "fairly priced" in the moment (given the knowledge at the time), but may turn out to be "unfairly priced" if in retrospect it appears to be fraudulent.

linuxftw2• 6 years ago

The stock market used to be a way to raise capital for profitable business ideas. Now, private equity has enough capital, they don't need to raise money from the general public. We've been shutout of the good money, we only get to pick up the crumbs, if we're lucky. The only businesses that IPO now are sure money-losers.

thephyber8• 6 years ago

We've been shutout of the good money, we only get to pick up the crumbs

Yeah, I think my biggest complaint of the private market / public market is the accessibility gap and the face that the actual valuation of a private company is extremely skewed because there is such little public info for due diligence and the company is so rarely re-evaluated.

danielovichdk• 6 years ago

From an outsider living a long way from USA, for many years now I haven't understood how the financial instruments of USA work. It constantly looks like the country is merely printing more money to stay afloat.

adammunich• 6 years ago

It is

candiodari• 6 years ago

It's weird that people think that it's different anywhere else. In fact, the situation in the US is, if anything, less serious than elsewhere. Especially Europe.

The ECB had to bail out quite a few banks, and several states have done the same. Even now the ECB is preparing new bailouts for European banks:

https://www.brusselstimes.com/all-news/business/116135/europ...

And when even the ECB thinks banks have behaved so appalingly they deserve to die (trust me this takes quite a bit of really, really bad behavior), the individual countries:

https://www.france24.com/en/20081020-french-government-105-b...

onion2k• 6 years ago

for many years now I haven't understood how the financial instruments of USA work

That's deliberate. If they're too complex for most people to understand then they're very hard to scrutinize.

rmrfstar6• 6 years ago

They aren't actually complex at all. People in finance like to jargon up the work they do.

Back in '08 we heard about how "complex" CDS are. There is nothing complex about a CDS.

Whenever something bad happens in the financial sector, there is always a simple story behind it. Usually a combination of fraud and leverage.

jaredtn• 6 years ago

I would say opaque rather than complex. The details of a CDS aren't complicated, nor is the Eurodollar system. But it can't be inspected from the outside, and even the Fed is reliant on running complex models in an attempt to model monetary policy impact.

Diederich7• 6 years ago

US native here.

If I printed some $100USD bills, took them to the bank and tried to deposit them, they would have no value. The consensus is that you aren't allowed to print money.

The United States Government prints money all the time. This money has value because there is a world-wide consensus that it has value.

The simple fact is that there is and has been (for many decades) no safer place to park vast sums of money than with the United States Government.

There are limits, though it's not clear what they are. If the US Government printed 330 billion trillion dollars, and gave a trillion to each US citizen, then the consensus would be instantly broken.

The US Government printing 'a trillion here, a trillion there', at this moment in history, is not materially damaging the global consensus. This confidence is relatively easy to measure: when the US creates more debt, are there buyers? The answer is and has been for many decades 'absolutely yes'.

I'm not trivializing this borrowing, and I'm not vilifying it. It is a unique tool that should be used wisely.

throwaway_jobs3• 6 years ago

The United States Government prints money all the time. This money has value because there is a world-wide consensus that it has value.

No the Government borrows against future taxes (consider that an accounts receivable), the borrowed money doesn’t have value because of consensus it has value because it is backed by future tax revenue.

If the government did as you say and borrowed a trillion per taxpayer the system would breakdown but not because of some “consensus” but because the account receivable (future taxes) is insufficient to payback the borrowed money.

grey-area• 6 years ago

You should also bear in mind that governments now buy more and more of their own debt (indirectly of course), so how much of that demand is real?

https://www.thebalance.com/who-owns-the-u-s-national-debt-33...

jonahbenton• 6 years ago

There is a lot of terminology, and the details are absurdly complicated, but the basic idea is simple:

* businesses make things and sell them

* businesses take loans as a way to have a base of money to operate with, because the costs associated to make things have to be paid before the revenue from selling them comes in, and sales may be cyclical, etc

* businesses pay interest on those loans. (Hopefully this interest rate is significantly less than their profit margin.)

* the issuers of the loans- usually banks- sell the rights to the interest payments of those loans. Why? When a bank makes a loan, it is exposed to the risk of the business failing- if it fails, the loan principal and interest payments are lost. banks don't want this kind of "all or nothing" risk (more below).

* people who buy those rights package those interest payment rights into legal structures that combine interest payment rights from a lot of businesses together

* parts of those melded interest payment legal structures are then sold, often sold back to banks, because now the risk, instead of being "all or nothing" is "diversified".

The same thing happens with mortgages- banks that issue mortgages sell the mortgages and then buy into structures that package the payment rights from many, many mortgages.

For every given institution/bank, the move to sell the specific asset and buy the diversified asset makes sense.

At a systemic level, when everyone is doing this, it becomes systemically risky.

What's happening now, because of the systemic risk, entities that hold these "diversified" assets are themselves selling them to the central bank, which is then absorbing the systemic risk. This article doesn't mention that bank holdings of cash are at all time highs.

In principle, this does not amount to "printing money to stay afloat"- though many will say in practice it does. In principle, it amounts to shifting systemic risk around.

throwaway_jobs3• 6 years ago

Simple...imagine an accounts receivable that you can borrow against, so when you are low on cash you can borrow money on the basis you will be able to pay in the future with the account receivables.

Only the US account receivable is taxes paid by taxpayers. So what happens is when the rich are in trouble they turn to the government and what the government does is says ok we will borrow against future taxes and just give it to you and typically those being bailed out are banks who turn around and take the taxpayers money and lend it back to the taxpayers. In short the taxpayers get screwed twice once being indebted to the government for future taxes and then again when they have to borrow their own debt from banks.

So imagine I’m your government and say look Bank needs money so I am going to give the bank $100 and you the taxpayers will have to pay that back. Bank gets the money and turns around and lends you $90 while keeping $10 as a fee earned and for lending you the $90 you will need to pay the bank back $100. You see now you need to pay $100 in future taxes to the government and $100 to the bank, so you are really out about $200 less the $90 loan.

SkyMarshal• 6 years ago

It constantly looks like the country is merely printing more money to stay afloat.

That's basically what's been happening since 2008. The main lesson the Economics profession learned from the Great Depression is that it's better to prevent a full-on depression by any means available than to let it occur and rebuild afterwards. Rebuilding after that level of economic destruction is long and arduous, better to preserve what you have. That's what the 2008 GFC would have caused (or worse) if not for extensive US govt and Fed preventative measures.

The modern means of doing that is for the government to deficit spend and for the central bank to pump the financial system full of cheap or free credit. Problem now is, nobody sees a way of unwinding the deficits and cheap credit without causing the depression they were trying to prevent.

Neither political party has the political will to balance the budget and be the cause of the resulting economic pain. Republicans convince themselves we can outgrow the deficits by cutting taxes, and Dems convince themselves that Modern Monetary Theory will spur growth and limit inflation enough to outgrow the deficits. The Fed tried early in the Trump admin to raise rates back to normality, and the market started crashing again, so they stopped. We're stuck.

It's the most consequential economic experiment since the US left gold standard, and nobody knows how it will turn out. Imho our best hope is for a gradual devaluation of the Dollar and a soft landing, avoiding a major shock. But under precarious circumstances like these, unpredictable shocks are a distinct, if not likely, possibility.

nojito• 6 years ago

It doesn’t matter if CLOs collapse. The capital requirements that banks operate under will ensure that they will withstand it.

thephyber8• 6 years ago

From TFA

But the losses from CLOs, combined with losses from other troubled assets like those commercial-mortgage-backed securities, will lead to serious deficiencies in capital.

You're making a pretty brave assertion given what we saw in 2008. I now assume that the ratings are all skewed to be too optimistic, publicly acknowledged exposure is skewed to underreport, and our ability to see the actual damage that would be caused by a system-wide collapse in CLOs isn't clear because we don't know what each opaque silo is doing to multiply or hedge those CLOs (and neither does any individual silo).

Also, capital reserve requirements dry up very quickly when a panic starts to set in. The Federal Reserve saved us earlier this year and in 2008+, but there comes a point when it won't be as successful and investors may start to see other markets as being comparatively lower risk, especially after the official US debt will likely jump 20-50% this year alone and we never unrolled the $4.5trillion in QE, only added another $4trillion - $10trillion onto that.

RandomBacon• 6 years ago

That's sarcasm right? The capital requirement has recently been dropped to zero.

Edit for source: https://www.federalreserve.gov/monetarypolicy/reservereq.htm

whatok5• 6 years ago

Reserve requirements != capital requirements. Reserve requirements are vs deposits, capital requirements are vs balance sheet items. Big difference between the two.

floatrock• 6 years ago

If that's not sarcasm, help me understand why... I'm not a finance guy. The argument made by the author was roughly something like this:

- Capital requirements against the CLO's assume AAA ratings

- In 2008, we learned that AAA CDO traunches were really AAA (despite not containing a single AAA-rated loan) only when assumptions about (non-)correlation of defaults remained true -- ie real estate markets are local so not everyone defaults at the same time

- The problem with the AAA CDO ratings was that in a time of crisis, all the "good times" defaulting correlation assumptions go out the window and everyone defaults together. Now the magic of blending a bunch of BBB's, BB's, and B's into an AAA no longer works.

So if now we're repeating the same story -- a big shock ('rona) makes a whole bunch of previously uncorrelated loans default together -- then the argument goes that the capital requirements which assumed AAA ratings are insufficient.

What part of that story is wrong or incomplete?

bostik• 6 years ago

Having just read both Liar's Poker and Barbarians at the Gates, the concept of CLOs sounds awfully familiar.

Loaning money to high-risk companies? Bundling a whole bunch of said loans into securities? High returns despite the risk of a significant fraction of defaults? Sounds like the world has been here before.

If this was a B-flick, it might well be called the return (or revenge) of the junk bond monster.

Grimm1• 6 years ago

This sounds entirely the same and this time the industry probably thought they were so clever because companies are likely still less risky than individual consumers and then oops Corona!

gridlockd4• 6 years ago

"There are more than $1 trillion worth of leveraged loans currently outstanding. The majority are held in CLOs."

To get some perspective, the FED recently added almost three trillion dollars of "not QE" to the balance sheet, mostly because of COVID-19.

They'll be bailed out.

"But this time, the bailout proposal will likely face stiffer opposition, from both parties"

Doubtful. Everything can be blamed on the virus this time.

jandrese• 6 years ago

Debt only matters if there is a Democrat in the White House.

mrep2• 6 years ago

What part of the FEDs balance sheet [0] are you concerned about getting bailed out because it is pretty much entirely composed of the US government's own debt through US treasury securities and citizens homes through mortgage backed securities?

[0] https://www.federalreserve.gov/releases/h41/current/h41.htm

gridlockd4• 6 years ago

I'm saying the banks holding CLOs will get bailed out much in the same way as those holding mortgage-backed securities. I'd be concerned if this didn't happen.

dustingetz• 6 years ago

America can afford to prop it up for as long as the dollar is in demand for international trade, and she will use her naval superiority to make sure of that

jessaustin3• 6 years ago

OK now I'm worried. Our navy seems unequal to the task of not running into other ships by mistake.

dia803• 6 years ago

Meh, the article doesn't mention recovery rates. If a loan defaults it's not usual you are getting 0 back. Typically 30-40% is the assumed rate. That means if all the loans default then the top 30% of tranches shouldn't take a loss.

So now consider, most of the underlying loans have to default and the recovery rate has to be below battle tested assumptions before the top tiers get risky. This is very very unlikely to happen given the Fed and the US Govt. have done so much and are committed to do more to stave off a severe depression / recession. It's more like people were killing it buying the safer parts at distressed prices as over leveraged funds shed them on the back of margin calls in March.

mycl• 6 years ago

It says this:

We already know that a significant majority of the loans in CLOs have weak covenants that offer investors only minimal legal protection; in industry parlance, they are “cov lite.” The holders of leveraged loans will thus be fortunate to get pennies on the dollar as companies default—nothing close to the 70 cents that has been standard in the past.

rmrfstar6• 6 years ago

Also, a lot of people make 10x levered bets on AAA instruments, which means even a 10% loss can wipe you out.

The trick is "repo", or repurchase agreements.

(1) Buy bonds

(2) Use those bonds as collateral for a low-interest loan

(3) Use the loan money to buy bonds

(4) goto 2

See, e.g [1]

[1] https://www.bloomberg.com/news/articles/2020-04-15/how-repo-...

dia803• 6 years ago

My bad, I missed that. Still I don't think your are going to see a meaningful fraction of highly rated CLO tranches default.

whatok5• 6 years ago

Cov-lite loans are at the largest percentage of issuance of all-time. 30-40% with a complete lack of meaningful covenants in a lot of cases is wishful thinking.

Additionally, what's new about this cycle is tech companies being a massive percentage of issuance. What's the recovery value of a tech company with little to no real assets? Additionally, what's the recovery value of an energy company when oil has dropped as much as it has? Both of those sectors make up a huge portion of outstanding and will move the needle meaningfully even if other sectors are fine.

I probably agree with your overall point about the Fed and and govt but you really cannot use historical assumptions for recovery rates this cycle.

rufusroflpunch• 6 years ago

We never "righted" the system after 2008 (or 2001). We just kicked the can down the road, making the problem worse for ourselves when we eventually do finally lose control. Our system is 100% entirely dependent upon ARTIFICIALLY low interest rates driven by Central Banks. It's the only still keeping this zombie of an economy moving, and it's the entire world, not just the United States.

Central banks are doing everything in their power to keep interest rates low because if they were to tick up even a little bit, the whole house of cards will come toppling down. They can't do it forever and we're all just playing chicken with hyperinflation.

itsoktocry• 6 years ago

Our system is 100% entirely dependent upon ARTIFICIALLY low interest rates

There is no such thing as "artificial" or "natural" rates of interest.

Central banks are doing everything in their power to keep interest rates low because if they were to tick up even a little bit, the whole house of cards will come toppling down.

Why would, or should, they "tick up"? Capital is abundant. If rates were higher, things would be different, yes. But that is not the world we live in.

It's the only still keeping this zombie of an economy moving, and it's the entire world

I love the idea that the entire global economy is fake, artificial and zombie-like, because it doesn't operate the way you think it should. A reasonable person would take a step back and question their premises and understanding.

darawk• 6 years ago

There is no such thing as "artificial" or "natural" rates of interest.

That is not entirely true.

https://en.wikipedia.org/wiki/Natural_rate_of_interest

Whether the natural rate of interest is real, or is a unvariate value is a matter of some debate among economists.

anm89• 6 years ago

There is no such thing as "artificial" or "natural" rates of interest.

In a sense this is semantically correct, there is no one true interest rate, in a hypothetical pure market there are many rates for many different types of transactions.

But to say that wildly misses the point that the rates for all transactions are hugely skewed, all in the same direction, because a single player, who writes the laws, and prints the money, is putting enormous pressure on rates.

So yes, there is no objective one natural rate. But all rates right now are extremely artificially skewed.

Why would, or should, they "tick up"? Capital is abundant.

Capital is abundant for the sole purpose of keeping rates low. You are confusing the causality here. If they weren't being suppressed, and actors were setting rates on a per transaction basis, then they would drastically tick up as many of the underlying entities economy wide have riskier default profiles than they have in the past. This isn't conspiratorial or speculative. This is widely understood to be true by mainstream economists, even those who support the rate suppression.

willcosgrove• 6 years ago

It's artificial if the entity loaning you the money and setting the rate has no associated risk.

If I loan you money there's risk you won't be able to pay me back. So I decide what interest you would need to pay me for it to be worth it for me to take that risk. Lots of other people do that, and you get a "natural" rate of interest as you call it. Everyone offering you the loan has skin in the game.

But if the entity that prints the money says they'll loan you money, it doesn't matter to them if you can't pay it back. They set the money supply. If you don't pay back, they can take the value from everyone dealing in their money by printing more. This lack of risk allows them to undercut the rates of entities who would be taking on risk. Now you have an "artificially" low interest rate.

vsareto2• 6 years ago

I love the idea that the entire global economy is fake, artificial and zombie-like, because it doesn't operate the way you think it should. A reasonable person would take a step back and question their premises and understanding.

The new part is the expectation that governments will prop up companies during bad economies.

This is bewildering to anyone with a naive view that believes America is a purely capitalistic economy. Surely if a company prepares enough for the storms, it's worthy of surviving them. Running thin savings is now more risky, but it means more profit. That's fair.

From another perspective, it's economic innovation where unpredictable disasters don't kill huge companies or industries. This can be a good thing, but it's not really capitalism any more.

So the person taking a step back will ask, "How far will the government go to protect large companies? How large do you have to be to get this protection? How does all of this work?" This is what we can't answer.

This is where people (rationally) start to believe things are fake, because the country's leadership gets to decide what happens to companies during these times.

Now this company knows the government is likely to bail them out, what reason do they have to plan for the worst any more? This gets even more uncomfortable when they get bailouts for causing the disaster themselves.

apta8• 6 years ago

Our system is 100% entirely dependent upon ARTIFICIALLY low interest rates driven by Central Banks.

It's the other way around: the entire reason why everything is so screwed is because of interest. It's an evil and exploitative practice that has destroyed so many people, only for a relative few to become wealthy. It's obvious today how this works out, but it's been going on for thousands of years, which is why it's banned in many religions, and for good reason.

hpkuarg• 6 years ago

A moral argument against the time value of money? Isn't that like legislating that the value of pi is 3?

onlyrealcuzzo• 6 years ago

Generally, you don't get hyperinflation when asset prices fall.

If interest rates were to rise to normal levels, asset prices could fall 45%. It's hard to imagine anything but deflation.

Unless interest rates go to extreme negatives, you will not see another effect like the one we have already seen from interest rate manipulation. There's just not enough room for a big rate of change.

It would be completely separate if you had outrageous fiscal spending to try to prop up asset prices. Given that fiscal stimulus is much harder to pass than monetary, hyperinflation doesn't seem like the thing to worry about.

bryanlarsen• 6 years ago

I argue that it's positive rates of interest that are artificial, not negative ones.

Traditionally if you had a large pile of gold and you wanted to protect it, you had to buy a safe to put it in and hire guards to keep the thieves out. The guard's salary is in essence a negative interest rate.

It was only the invention and adoption of fractional reserve banking that enabled positive interest rates.

apta8• 6 years ago

The current economic system is fundamentally flawed. Unless someone has the courage to ban interest/usury, things will stay the way they are. We have known this for thousands of years now, but unfortunately greed and exploitation persists.

cm2187• 6 years ago

Idiotic article. First a CLO is essentially a portfolio of loans. You can call that gambling, and in a way, every financial risk is gambling, but it is the very job of a bank to take credit risk, and to lend.

Then, I don't know about Wells specifically, but it is possible that these CLOs may not even be external transactions, that the bank securitised its own loans so that it stands ready to post them to the central bank as collateral to get short term funding in exchange, if a liquidity crisis hits. If it is the case, it is actually a good thing.

The banking system is increadibly strong vs 2008, the amount of capital banks hold is a multiple of what they held in 2008, while having reduced the size of their balance sheets at the same time (ex Chinese banks). They hold huge amounts of liquid assets and have limits on how much short term funding they can rely on. In addition the introduction of bailin should protect tax payers in the case of a bank failure.

I would be much more worried about the financial impact of money printing. The amount of QE that the Fed has introduced is unprecedented, both in size and velocity, and they keep printing. And we are only at the begining of this downturn. This will massively distord the markets. And I don't believe it will not create inflation ultimately, which is a much bigger threat to savers than their bank credit risk.

linuxftw2• 6 years ago

but it is the very job of a bank to take credit risk, and to lend.

This used to be true, but isn't. The job of the bank to is play the spread. They take 0% interest loans from the Fed, loan the money to you, and then resell the loan into the market (aka, your 401k). This is why the subprime mortgage crisis was a crisis. Banks had almost 0 risk. Just let the credit rating agencies stamp AAA on the CLO, push it into the state of California's pension fund as AAA securities, profit.

If any bank is not selling the loan, they're taking a completely unnecessary risk.

whatok5• 6 years ago

Agree with a majority of this. US bank balance sheets are in a whole different universe than they were during the last crisis. CLOs are not only a minuscule portion of their holdings but they also hold a tiny percentage of outstanding CLOs.

Japanese co-op banks on the other hand have huge CLOs holdings and would be extremely exposed if these went sour.

cryptica3• 6 years ago

It will likely cause massive inflation but it may not cause much of an increase in CPI. I think economists ought to redefine inflation. CPI is not the same as inflation. CPI metrics have been thoroughly gamed decades ago and they're essentially meaningless.

Almost all of the monetary inflation these days shows up in the markets as inflated asset prices and does not show up in the CPI.

If you believe that bare sustenance of the working class is the only thing that matters, you could argue that this distinction is not significant... But growing wealth inequality is causing concentration of political power, distorting markets, regulating small businesses out of existence, creating useless corporate jobs, driving up rents, eroding privacy rights, eroding democracy, eroding freedom of speech, creating division (Milton Friedman even warned us about this in the 70s), encouraging unethical business practices (surveillance capitalism)... I think we're well beyond the point where we can sweep these problems under the carpet. They have become existential problems for society and they are caused by wealth inequality brought about by asset price inflation and accompanying stock buybacks (often paid for using interest-free printed credit from banks).

We live in a feudal society - But unfortunately for the plutocrats, they cannot use god's will as an excuse to justify their current position in society... The more time passes, the more people become aware of systematic cronyism, the more untenable the plutocrats' positions will be.

nine_zeros• 6 years ago

So what? There is only one game out there and its called printing money.

We have bad loans on the books? Oops, nothing we can do here and can't have so many foreclosed lower valued assets. Print.

If anyone looked at billionaire net worths, they would know that hyperinflation is rampant. The only reason it doesn't show up in the cost of Milk is because the peasants (we the people) fight for scraps and are willing to take smaller slice of the pie.

In other words, the Bernanke trick of inflating assets in 2008 did its job. It inflated assets and the size of the pie increased. But 90% of the participants still have a lower share of the pie.

WarOnPrivacy• 6 years ago

"I have a checking account and a home mortgage with Wells Fargo"

Casting literally every inch of his financial judgment into doubt.

Or maybe we've just been pranked

stuntkite• 6 years ago

How come no one is talking about the fact that a couple months ago our banks went from fractional reserve to zero reserve? If that doesn’t scream disaster is expected I don’t know what does. Literally anyone can form a banking org, get fdic insurance and print. money. out. of. thin. air.

If you aren’t doing it yourself already, maybe you should. I’m gonna try and maybe make a medium.com post about it.

Ambele• 6 years ago

If the banks aren't paying interest on deposits anymore, does it now make sense to withdraw some of the money and store it under a mattress somewhere?

Obviously there are theft, fire, and police confiscation risks that need to be overcome first.

The Looming Bank Collapse

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