On 1 May it was announced that First Republic Bank had been taken over by the US regulator FDIC (Federal Deposit Insurance Corporation) and immediately sold to the largest US bank JPMorgan.1 JPMorgan will take over all assets and the 84 branches. The US regulator FDIC expects that it will have to take over losses of about 13 billion US dollars. In terms of total assets, this bankruptcy of First Republic Bank is the second largest bank failure in US history. In view of this development, the question arises as to what will happen to the banking sector now.
The “Wall Street Journal” has been focusing on the banking issue since the first bank riots in March, when Signature Bank and Silicon Valley Bank went bankrupt, and spoke of a “banking crisis in slow motion”.2 On 27 April 2023, shortly before the closure of First Republic Bank, an article appeared there with the title: “The Bank Riots Are Just the Tip of the Debt Iceberg”.3 Bank stocks within the [stock index] S&P 1500 were valued lower in mid-April 2023 than almost ever before this century. The P/E [price-earnings] ratio was only 8.4 In Europe, too, the banking crisis is anything but over.
What has caused the banking problems?
At the core of the recent banking problems is the fact that the Western central banks have dramatically expanded the monetary base over the last 15 years and kept interest rates close to zero for a long time.
In view of the money glut, especially during the lockdown period, banks in the USA, but also in Europe, then issued a lot of long-term loans with very low interest rates and, since they could not accommodate all the deposit money in the form of loans, bought a lot of long-dated bonds with very low interest rates.
Triggered by inflation and the subsequent sharp interest rate hikes by the US Federal Reserve5, both short- and long-term interest rates have increased sharply – by about 3 percentage points – since the beginning of 2022, so banks now have an earnings problem: they now have to refinance at sharply higher deposit rates, i.e. they have to pay relatively high interest rates to their depositors and therefore their interest expense has increased drastically. However, they continue to receive only relatively low interest income from their borrowers or their bond holdings from long-term financial investments.
It will take years for this earnings squeeze on the banks to slowly ease as their low-yielding long-term loans gradually run out and their bonds mature. According to the “Wall Street Journal”, this earnings squeeze is likely to continue for years.6 Hence the current secularly low valuation of US bank stocks.
In addition, the high levels of commercial real estate lending in the US in particular – some 5.400 billion US-Dollar, or about one-fifth of US GDP – are currently problematic for banks, as many commercial properties are struggling with high vacancy rates and collapsing property prices.7 With the economy expected to weaken during 2023, banks are likely to face quite some loan defaults,8 both in the US and Europe.
What are the consequences?
In short, according to the “Wall Street Journal”, the banking crisis is far from over. Weak banks cause weak lending. Weak lending causes weak economic growth.
But it is not only this general development that is unpleasant. What is particularly interesting is that large and small banks are being and are likely to continue to be affected to very different degrees. The bank turbulences in March 2023 have led to many investors being uncertain whether they will get their deposits back in full from smaller banks in the event of loan defaults. As a result, there has been a strong flight of capital from small to large banks in the US in recent weeks: regional banks lost 212 billion US-Dollar in deposits last month, while the 25 largest banks gained $18 billion.9 Following the motto “too big to fail”, many investors assume that their investments are safer with the big banks as opposed to smaller credit institutions.
The assumption is that the big banks will be rescued by the government in any case. But this does not necessarily apply to small and medium-sized banks, which are not considered systemically important, i.e., which can be allowed to go insolvent without triggering a domino effect leading to a crash of the financial markets.
As a result, small and medium-sized banks in the US are currently coming under pressure – unlike the big banks. They have to offer significantly higher deposit rates than the big banks in order to keep customers and therefore also have to raise their lending rates. This puts them at a severe competitive disadvantage vis-à-vis the big banks. What does this mean for a country?
The great advantages of small regional banks
The financial crisis of 2008 has shown that large, supra-regional banks act much less responsibly than small or medium-sized banks with regional roots. Before 2008, especially in the USA, real estate loans were taken out some of which were hardly repayable, as the bankers well knew. These problem loans were converted into securities (so-called asset backed securities) and sold via the stock exchanges to distant investors, especially in Europe, so that the buck was passed to them, and they then had to carry the loan default losses. In this way, the US real estate crisis was exported directly to Europe. In the years before 2008, the profits ended up with US investment banks and loan originators, who earned lucrative commissions. The risks and later the losses were largely shifted abroad.
Such irresponsible behaviour cannot be afforded by small regional banks, such as Raiffeisen banks or savings banks which have strong local roots and know their customers, in both the deposit and lending business, personally. What we could learn from the financial crisis is this: the more distant the bankers are from their customers, the more irresponsible their business behaviour will be. Conversely, the more regionally rooted a bank, the more responsibly it will usually act. From an ethical point of view, smaller regional banks are a real ray of hope.
In addition, regional banks are particularly important for the regional economy. US companies with less than 100 employees get 70 per cent of their loans from small and medium-sized banks.10 In rural regions, the figure is as high as 90 per cent. If the small regional banks get into trouble, the regional economy will also have problems. And that is exactly what is happening in the USA at the moment.11
The current slow-motion banking crisis represents a systematic and, according to the “Wall Street Journal”,12 prolonged shift of funds away from small and medium-sized regional banks to the big banks, funds and corporations.
Increasing concentration in banking
The increasing concentration in US banking has been in existence for several decades:13 In 1983, the US had 14,469 independent banks, which was the highest number ever. By 2022, there were 4,135, i.e., there was a decline of 71 per cent over the past 40 years. In 2009 bank branches peaked in the USA, with 85,834 branches. In 2022, there were 71,190 of these. That is a decline of 17 per cent in the last 13 years. If you take the number of independent banking institutions and the number of branches together, the result is a strong concentration process in the last decades. According to the “Wall Street Journal”, this leads to a weakening of small and medium-sized enterprises – in favour of big banks and holders of large capital.14
The same trends are also at work in Europe. In the EU, the number of banks declined by 23 per cent to 6,596 banks alone in the wake of the financial crisis, i.e., between 2008 and 2016.15
In Germany, according to the most recent Bankstellenbericht (report on the development of the banking network) of the Deutsche Bundesbank16, there were still more than 4,700 independent credit institutions in 1991, but by 2021 there were only 1,519. This corresponds to a decline of more than two thirds, i.e., two out of three banks have closed down in our country over the last two decades. The number of branches was 21,712 in 2021, compared to 54,089 in 1991. According to the Bundesbank, this corresponds to a decline “to only two-fifths”.17 So in Germany, too, we see an extreme development of concentration in the banking sector.
What is behind this?
This trend in banking reflects well the developments of the last 40 to 50 years18. In industrialised countries, there has been an increasing concentration of wealth, capital and power among ever larger corporations and the multi-billionaires behind them19. In the US, the highest concentration of wealth in US history was reported in 2021: 0.01 per cent of the population then owned 10 per cent of all US wealth. This is a higher concentration than even in 1913, in the days of Rockefeller and JPMorgan20. The banking crisis of March 2023 is a kind of amplifier of this long-observed trend towards less and less competition21 and more and more concentration of power.
For decades, the inequality of distribution has been increasing in the Western world22. Through lobbying, the big corporations and the billionaires are exerting more and more influence on politics23, especially through the few big media corporations. The billionaires and corporate leaders have never been democratically elected by the citizens in any political election.
Concentration of power,
abuse of power and countermeasures
For decades, we have seen an increasing concentration of power, an ever-greater concentration of economic power in the hands of relatively few people who have never been democratically elected, an economic power that increasingly translates into political power. In my estimation, our democracy is being increasingly undermined by this circumstance. If we are not careful, we could soon wake up to find ourselves in an oligarchy or aristocracy. However, we can become aware of this and change it:
A first simple countermeasure would be a progressive land levy after an allowance of perhaps two million euros per capita, in order to abolish large-scale private land ownership in the long term, for which there is neither economic nor ethical legitimacy. Among other things, this would lead to a building boom and could be used for a massive tax cut for low-income earners. Secondly, we could ban industrial lobbyists from the Bundestag; here the keyword is a ban mile around the Bundestag. Thirdly, we could ensure a plural, decentralised, free and independent media landscape, among other things through a progressive, size-dependent tax on media groups, in order to scale down their size and influence in the long term and to limit opinion power according to the motto “small is beautiful”. Further measures can be found in my book “Das Mephisto-Prinzip in unserer Wirtschaft” (The Mephisto Principle in Our Economy), which can be downloaded free of charge in its entirety.24 •
1 nytimes.com/2023/05/01/business/first-republic-bank-jpmorgan.html?campaign_id=190&emc=edit_ufn_20230501&instance_id=91475&nl=from-the- times®i_id=106400176&segment_id=131795&te=1&user_id=2d4af86ab3b9023648e49aa38e005d93
2 Wall Street Journal of 30 March 2023: “Threat of a Slow-Boil Bank Crisis Endures“
3 Wall Street Journal of 27 April 2023: “Banking Turmoil Is Tip of Debt Iceberg“
4 Wall Street Journal of 13 April 2023: “For regional banks, surviving won‘t be the same as thriving“
5 The US FED rate hike cycle started on 16 March 2022; tradingeconomics.com/united-states/interest-rate
6 Wall Street Journal of 13 April 2023: “For Regional Banks, Surviving Won‘t Be The Same As Thriving“
7 Wall Street Journal of 7 April 2023: “Office Vacancies, High Rates Press Property Bonds“
8 Wall Street Journal of 14 April 2023: “Junk-Rated Companies Struggle With Debt“ and 27 April 2023: “Banking Turmoil Is Tip of Debt Iceberg“
9 Wall Street Journal of 17 April 2023: “Banks Are Pressured To Raise Rates on Deposits“
10 Wall Street Journal of 24 April 2023: “Lending Squeeze Is Risk From Bank Fallout“
11 Wall Street Journal of 31 March 2023: “Bank Fears Hit Small Lenders, Clients“
12 Wall Street Journal of 30 March 2023: “Threat of a Slow-Boil Bank Crisis Endures“
13 banks.data.fdic.gov/explore/historical?displayFields=STNAME%2CTOTAL%2CBRANCHES% 2CNew_Char&selectedEndDate=2022&selectedReport=CBS&selectedStartDate=1934&sel ectedStates=0&sortField=YEAR&sortOrder=desc
14 Wall Street Journal of 17 April 2023: “Banks Are Pressured To Raise Rates on Deposits“
16 Bankstellenbericht (report on the development of the banking network) 2021 of the Deutsche Bundesbank of 8 July 2022: bundesbank.de/resource/blob/894918/e4f32b6ca4130522d8db47352d32cdbf/mL/bankstelle nbericht-2021-data.pdf
17 Bankstellenbericht (report on the development of the banking network) 2021 of the Deutsche Bundesbank, p. 9
18 Forbes of 17 July 2017, forbes.com/sites/gradsoflife/2018/11/06/salute-to-skills-workshops-for-warriors-and-hire-heroes-usa/#343e37385a11
19 oxfamilibrary.openrepository.com/bitstream/handle/10546/621341/bp-inequality- kills-170122-en.pdf
20 Inequality.org of 9 August 2021
21 Wall Street Journal, “Dion Rabouin: Why Big Companies Love Inflation»: youtube.com/watch?v=E3i7TqzW42g
22 menschengerechtewirtschaft.de/wp-content/uploads/2020/07/Buch-Mephisto-30.4.20- mit-Bild-1.pdf
23 Inequality.org vom 3.11.2020
* Prof. Dr. Christian Kreiß, born in 1962: studied economics and economic history at the LMU Munich. Worked for nine years as a banker, seven of them as an investment banker. Since 2002 professor of business administration with a focus on investment, finance and economics. Author of seven books: Gekaufte Wissenschaft (Purchased Science) (2020); Das Mephisto-Prinzip in unserer Wirtschaft (The Mephisto principle in our economy) (2019); BWL – Blenden Wuchern Lamentieren (Business Administration – Dazzle Usury Lament) (2019, together with Heinz Siebenbrock); Werbung nein danke (Advertising no thanks) (2016); Gekaufte Forschung (Purchased Research) (2015); Geplanter Verschleiss (Planned Wear and Tear) (2014); Profitwahn (Profit Mania) (2013). Three invitations to the German Bundestag as an independent expert (Greens, Left, Social Democrats), numerous television, radio and magazine interviews, public lectures and publications. Member of ver.di and Christians for a Just Economic Order. Homepage: menschengerechtewirtschaft.de
First published: https://menschengerechtewirtschaft.de/wp-content/uploads/2023/04/Bankenkrise-welche-Bankenkrise.pdf on 28 April 2023
(Translation Current Concerns)
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