Monday, September 29, 2008

Some questions just stay asked

The Economist on Bank failures –

"…The money markets are a bit like the sewers of the financial system: in normal times, nobody notices them but when they get blocked up, the stench is abominable. And they are severely congested at the moment. The good news is that, unlike last week, it is possible for banks to borrow overnight at a reasonable rate. The bad news is that borrowing at longer rates is either impossible or prohibitively expensive.

…It is, indeed, unfair that banks tend to be rescued when they go wrong whereas coal mines and shoe retailers do not. But banks play a key role in oiling the system; they provide the credit that lets the rest of us do business. They also have innate risk; because they lend more money than they have cash in hand. To put it another way, they borrow short and lend long. This has made them the subject of panics throughout history, and those panics have always led to economic turbulence. The authorities can let them go bust, but the risk is depression. Or they can hold their noses and bail them out.

…And there will be more crises in future. Now that investment banks are part of commercial banks, we have returned to the risks that characterized the system before the Glass-Steagall Act of 1933—specifically, that reckless investment banks can fritter away retail depositors’ money. And what will we have to do if that happens? Bail them out again."

In short, the article says banks should be bailed out because if you don’t it leads to depression. Not because they deserve it, Ha! The banks fail because of mismatch of maturities; they borrowed short to lend long. But how do tax payers care? These banks didn’t fetch them a penny when the going was good. Now when they go belly up, why should they care?

No answers. Some questions just stay asked.

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