This is How an Era-Defining Crisis Begins…
The first step toward recovery is admitting you have a problem. Which is precisely why the U.S. banking sector is about to go through hell. The Federal Reserve refuses to acknowledge it has a problem.
That problem?
Hoover Institution research following recent U.S. bank failures revealed that almost half of America’s banks are technically insolvent. Blame the Fed.
Of America’s 4,800 banks, 2,315 have assets worth less than their liabilities. Meanwhile, the value of these lenders’ loan portfolios is cumulatively $2 trillion less than their stated book value.
I mean, that’s bad enough. Those are the same conditions that recently took down Silicon Valley Bank, Signature Bank, and First Republic. And that helped destroy the banking industry back in the housing crash of 2007-2009.
But it gets worse.
See, the Hoover Institution notes that we’re not just talking about tiny, no-name banks in the hidden corners of North Dakota.
Many of these are big-boy banks.
Big Banks Face Their Own Banking Crisis
Among the 10 most vulnerable banks, says Hoover, is one of the world’s largest banks. It’s a so-called global systemically important bank, or G-SIB.
These are banks that world governments have pledged to support fully come hell or Martian attack. Otherwise, their collapse would rip apart the global economy.
The collapse of a G-SIB would be the financial equivalent of the famous 1883 eruption of Indonesia’s Krakatoa volcano. Shockwaves from that event hurtled around the planet more than three times, killed more than 36,000 people, and darkened the sky and altered the climate for years afterward.
That’s what we’re talking about if a G-SIB keeled over—global economic destruction.
Hoover didn’t name the G-SIB bank at risk because it didn’t want to cause a panic. Still, it noted the bank has assets worth more than$1 trillion. Consider that the FDIC, which covers deposits at failed banks, has only $127 billion of assets. It, too, could soon need its own government bailout since it has rescued so many big banks lately.
That is the risk we’re now dealing with because of the way the Federal Reserve has mismanaged the monetary system.
As you know, the Fed spent the past year raising interest rates from 0.25% to 5.25%… the fastest hike in proportional terms in the history of the U.S.
But to be clear, the current situation isn’t solely the result of those Fed interest rate hikes. A multi-decade build-up has quietly massed behind the scenes, much like the pressure that massed beneath Krakatoa for years before the boom was unleashed.
How the Fed Created America’s Banking Crisis
In our case, those pressures were more than a decade of ultra-low interest rates that the Fed used to save Wall Street from itself after the global financial crisis.
This prolonged period of ultra-low rates manipulated the economy and financial markets in unnatural ways—pouring cash into the stock market and the housing market and the bond market and the market for Siamese fighting fish and ferrets and just everything else in the world.
It’s the old saying about “pushing a balloon on one side only causes distortions on the other side.”
While writers such as yours truly have been warning about those distortions for well over a decade now, no one really paid much attention because of a really stupid ideology known as “Don’t fight the Fed”—the notion that the Fed is an all-powerful deity that controls everything.
And sure, the Fed wins in the short term.
But in the long run, the Fed, and ultimately governments, bends to the whims of the true power in our economy—the market.
The market finds distortions and punishes them… always.
That’s why the Great Depression happened… why FDR confiscated gold to save the dollar in the 1930s… why Nixon had to pull the dollar off the gold standard in the 1970s… why George Soros was able to “break the Bank of England” in the early ’90s… why the Soviet Union collapsed.
America could have avoided the banking crisis that has already begun and which promises to worsen.
The Fed could have seen inflation emerging, rather than ignoring it. It could have raised rates slowly, incrementally, over a period of years. Instead, it panicked, and then over-reacted.
Bad, bad decision.
The Banking Crisis Will Only Worsen
After decades of low interest rates, banks were not prepared for this rapid hike policy… which crushed the value of their bond holdings. As Uncle Sam issues new bonds at necessarily higher rates, the prices for older bonds that banks hold plunge. Banks then must sell their older bonds at a loss when customers want their money back.
Now, we’re seeing the fallout as banks crumble like drunks into a gutter after a bender.
If the Hoover Institution’s analysis is correct—and there’s no reason to assume it’s wrong because it’s based on bank-reported numbers—then this banking crisis is only getting started.
How the Fed handles it will determine how much pain Main Street America feels.
It could back off its interest rate hikes… softening the pain for the banks. But that would mean admitting a mistake, so I don’t expect that to happen.
Will this be 2007 all over again?
Will it be contained, limiting the destruction?
Or …will it be worse than 2007?
Frankly, we don’t know yet. But we’re about to find out.
The Fed seems incapable of admitting it has a problem.
And, as always, we’re the ones who will pay the price.