Regular readers know that this is what allows banks/Wall Street to Rescue Main Street.
Banks can recognize all the losses on the excesses in the financial system today. This prevents burdening the real economy with the depressionary drag of carrying this excess debt and zombie borrowers.
Subsequently, banks can generate retained earnings and rebuild their book capital levels.
Notice how we have not seen TV coverage of a eurozone version of the “Northern Rock Affair.” For those who do not remember that event, it was the run on a British bank that caused the bank to fail when depositors demanded their money. That triggered a panic. Disaster was averted by prompt action from the Bank of England.
Think about it. Greek banks have lost tens of billions of euros in deposits and yet there have been no failures. Cyprus is bleeding deposits but no failures. Other countries, too. The Spanish deposit flight has been huge.
Yet, there are no reported failures to pay euro depositors who demand their money.
You cannot blame the depositors for seeking safety by moving their money to German, Dutch, or Finnish banks. I would. You would. We advised some clients to do so. Euros are euros regardless of which bank holds them for you. Why take a risk with your deposit under the present circumstances, when you can avoid it.
The euro system leadership knows that bank runs can cause their 17-country, currency-zone system to collapse. All of banking history is supportive of this fact. Therefore, they faced the issue when their backs were to the wall.
The fact is the absence of banking collapses is good news. That is correct. Good news! We establish that good news by what we DO NOT see on TV. We do not see banks collapsing and failing to pay depositors. This means we may not witness the euro system collapsing and failing.
Bank runs and deposit failures are symptoms of liquidity constraints. Liquidity is not to be confused with solvency.Please re-read the highlighted text as the distinction between liquidity and solvency is very important. So long as a bank has access to liquidity, it has time to generate the earnings needed to restore its solvency.
A prime example: Greece is certainly insolvent. It cannot pay its debt or its governmental bills. Nevertheless, Greece’s banks still have liquidity because of Emergency Liquidity Assistance (ELA) funding. ELA exists the euro system agents know that they cannot permit euro system banks to fail to pay their depositors.
Therefore, our conclusion is that liquidity issues will be addressed in the euro zone.
The Spanish banking chapter is unfolding before our eyes. Markets have been pricing in a fear of systemic failure on the liquidity side. Market bears will be disappointed, because the liquidity failure is not going to happen.
Other market agents have priced the solvency issue correctly.
That is why the Greek stock market has been decimated. That is why Greek bonds trade with astronomical yields. That is why Spanish stocks are down. That is why credit spreads are so wide....
Europe can fix or stopgap any illiquidity. They have the tools with the various funding sources like ESM, with the ELA and with the hands of the European Central Bank (ECB).
The solvency issue requires governments with strong leadership and durable commitments to change behaviors. As we know from our own political experience in the US, this solvency/debt issue is much harder to tackle.To date, under the Japanese model for handling a bank led solvency crisis, the EU, UK and US leaders have chosen not to tackle the solvency issue at all. They prefer to lie about the current condition of the banks' assets and pray for a miracle to restore the banks' capital.
Central bankers and institutions around the world have the ability to offset liquidity crunches. They know that another Lehman/AIG moment cannot be permitted. Do they have the ability to deal with insolvency?...Solvency can only be dealt with if the policymakers and financial regulators adopt the Swedish model and require banks to recognize their losses and provide ultra transparency so market participants can confirm the fact.
We worry about solvency. That is the political side of the issue, and we are not in the least sanguine about politicians in any country, including our own. European politicians caused European government insolvency. Can they fix it?European politicians cause European government insolvency by needlessly bailing out the banks in 2008/2009 and adopting the Japanese model.
What is needed is adoption of the Swedish model with ultra transparency and letting the banks fund the rebuilding of their book capital levels.