In the eyes of many financial experts, the recent weakness in the world banking system is a regional symptom in that market and not a systemic problem. Right now financial firms that have exposed themselves to “sub-prime” mortgages face much larger losses on the surface than other banking and finance firms. On a regional basis, the value of homes in the U.S. market as well as other assets like stocks and bonds, have been adversely affected. As a result, bank losses have multiplied and lending has been sharply curbed as a result of defaults on loans and the devaluation of bonds. These loans and bonds are the profitable mainstay of banking. These banking declines continue to be revealed in the United States and worldwide. The news is now reporting job losses and continuing expected job losses as a result of the economic slump in the United States.
Economic analysts have been quick to lay blame on policymakers. The trend of “deregulation” has created a climate with little oversight by bankers and regulators. It is natural that “the industry” would want to spread the risk and increase profits by seeking bond investors throughout the world. Misinformation and lack of proper evaluation have been rampant. When the crisis hit from relentless profiteering and the crumbling base of the “sub-prime” mortgage bonds, the investment world was sent into a tail spin. Naturally, the goal of the industry is to detract attention from the crisis along with any responsibility, while shifting as much of any catastrophic loss as possible. The history of the banking and finance industry shows that the Federal Reserve and other central banks will ultimately take care of everything, acting much like a large safety net to bolster the system. Any financial instability dramatically risks increasing the national debt for the region along with devaluation of regional monetary value. The Federal Reserve and other central banks will play a reassuring role by trimming short-term interest rates and creating new channels of commercial credit.
Jean-Claude Trichet, president of the European Central Bank disclosed the need to watch continued uncertainty in the money markets to ensure smooth functioning. The theory of the Federal Reserve is to reduce interest rates more aggressively to prevent the current credit crisis from evolving into a recession that would deepen the credit crisis currently underway. The weakness in the banking industry lies in the size of the U.S. market as well as the fact that hundreds of billions in U.S. mortgage debt have been invested in by overseas investors.
The banking system does have systemic problems. Banks have bet heavily on the continued boon of their market through the use of creative internal loan schemes. They are being forced to absorb losses and lower the value of their banking assets. As credit ratings on bonds are lowered, asset values continue to deflate. Contracts called credit default swaps were designed to insure against loan losses, but are in reality untested theory. As a result, banks are now very fearful to lend to one another. The reality is that interbank lending is a routine part of the world economy and is required for status quo operations to continue. The irony is that what bankers fear most is exactly what they must face on a daily basis.
On the surface, most bankers and their mouthpieces are optimistic. They say that the global economy will escape major damage. Behind the scenes, they are shaking in their boots from enacting new profit-generating policies that threaten to swallow banking reputations and liquidity whole.