Weidmann is worried about taxpayers being on the hook rather than the banking system. Oh matey…. FAR TOO LATE to worry about that, and you should know, as you are part of the problem!
First up, glad to announce this is not a rant about the Germans not knowing their own history on deflation, depression, fixed currencies and their historic link with social and economic collapse and failed Austrian painters. No, this time it is their top banking doggy, Jens Weidmann, explaining why the ECB’s ABS (Asset Backed Securities) purchase scheme will be bad news and shouldn’t be allowed as it transfers risk from banks to taxpayers.
Now while he makes very valid points about supply side economics and structural reform, as we have discussed many times, this simply can’t happen within economies stuck in depression, with debt deflation, no currency flexibility and almost inevitable long term debt default. More importantly this is not a Keynesian point about money printing (my dislike of QE is manifest in my entries, although I think this scheme at least is correctly targeted) because right now that is a minor point compared to why we are all so very much on the hook for evermore precisely because central bankers everywhere are muppets. So please, anybody linked to Jens in any way, if possible please do pass this on:
Dear Jens below are a few points you should probably be aware of:
1. The ABS scheme will naturally be pretty small for a while. As discussed here before, it’s still a small market in Europe, compared to the US, and although in principle there is strong logic behind it if you want to unburden banks balance sheets (don’t talk about moral hazard, Jens, we passed that one by a long time ago, the crime has already happened, the line crossed, so let’s at least try and make things work and get practical) it will take time and a concerted effort to create enough ABS to make any difference to the disaster that is the EZ banking system. Basically don’t worry about it, the headline the other month of €1tn is nonsense, the real numbers are, unfortunately, just too small to make a difference when the entire currency is going to be restructured at some point, imposing eye watering cost.
2. What is the purpose of a central bank? No, not necessarily to set interest rates, politicians can frankly do that (and let’s face it indirectly still do in plenty of cases…central banks politically independent? Hah! Do me a favour). No it should, above all else, be to act as “lender of last resort” to the national system. So when a bank collapses the central bank steps in and prevents a bank run, or very possibly a systemic failure, which tends to happen you get a bank run. Hence by definition the taxpayer is ALWAYS ON THE HOOK you dunderhead. Furthermore if you can prevent banking collapses by early intervention (say be relieving balance sheet stress by removing toxic assets) and help growth (by say relieving balance sheet stress, freeing up capital that can be lent) which helps banks get stronger, than that is surely cheaper than picking up the pieces (Lehman Brothers anyone???)
3. Finally, AND THIS IS THE BIGGY, Lehman Brother proved that not only have banks become Too Big To Fail (TBTF) but due to the inter-connectedness of global markets the banking system is itself TBTF and the sudden collapse of any major counterparty will crash the system
So how in the name of all that is holy did this mad situation develop, where the well-being of the global economy is dependent on a systemically fragile banking system…..mmmm…how could that have happened under the watchful eye of responsible central banks, like the Bundesbank…
UNDER THE WATCHFUL EYE OF THE BUNDESBANK????!!!!! Too late to preach now Jens, you and your cronies have put us all on the hook (and let’s not forget how German banks were up to their eyeballs in peripheral debt, which is the real reason you agreed to save the EZ, the financial crisis was nearly as German as American, despite the arrogant assertions of that dummkopf, Schaeuble) to a system that has moved beyond the national some time ago.
I wouldn’t mind but compared to the US the Eurozone banks have barely begun to sort out their balance sheets and regain enough strength to either help the recovery, or more importantly, to reduce the risk of future collapses, which itself would be reduced if they were able to help the recovery.
Surely though, after having an entire currency saved to protect them at least German banks would be safe. Surely? Especially a big one like Deutsche.
Well let’s briefly revisit the Lehman failure. One of the big problems then was the enormous exposure Lehman’s had to the Over The Counter (OTC) derivative markets, in particular to Credit Default Swaps (CDS). Now the problem with OTC markets is that banks trade directly with each other, rather than on a formal market, with there rarely being a central counterparty to keep track of positions (although thankfully this situation has improved in some markets since 08). Hence when Lehman’s collapsed, although individual bank exposures to their trading book may have netted off reasonably flat (so no great liability one way or another), the gross amount of capital tied up in transactions that froze was numbered in the hundreds of billions if not trillions. Hence capital disappeared from the banking system in a heartbeat and chaos ensued.
So fast forward to 2014 and ask, who has the biggest exposure to OTC derivatives? No, not JPMorgan, although a gross exposure of $70 tn is..erm…substantial. No it is good old Deutsche Bank, which has $75tn OTC exposure, which is about the size of global GDP (YES. One bank has largely unregulated financial derivative exposure of the amount of one years global economic output). Worried yet? If not you probably should be.
Now most of this exposure will be related to credit agreements, linked to German trade rather than speculative positions. Additionally the NET exposure is supposed to be a lowly $30bn(!), which the system could easily absorb. However as Lehman’s demonstrated in a collapse the capital is all tied up as nobody knows where all the exposures are.
Put simply if Deutsche failed it would bring down the global economy in an instant, and would Deutsche survive a systemic EZ banking failure without central bank assistance? The answer probably begins with an N and ends in o.
Simple truth Jens; we are all on the hook for evermore due to the incompetence of central bankers globally, who not only allowed this Frankenstein system to grow unchecked, but also pursued pro-cyclical policies for decades, ramping up the risks ad-infinitum, with nary a word of caution until it was far too late.
Jens stop preaching, gain some intellectual coherence and get on board trying to help somehow, rather than bitching about anybody trying to take action that might actually make things even slightly better.
Have a great weekend and be happy that love and friendship doesn’t depend upon banks.
PS. As a final thought you may read bank apologists talking about their Value At Risk (VAR) systems, which are supposed to stop future failures by preventing the build up of risk. Well ignoring the fact the Lehman Brothers had VAR systems think about JPMorgan’s infamous London Whale; the trader who lost the bank somewhere in the region of $6bn. His VAR limit was around $69m, yet he lost about 87 times that amount. A decade and a half after the LTCM Hedge Fund failure (read “When Genius Failed” and it will inform not just on that event but the larger systemic issues – although the amounts involved then now look tiny) people still haven’t learnt that the maths doesn’t really work in extremis; which is a shame as that is precisely what it’s there for.
Awesome.