SVB: US government tries to contain panic with money – 03/13/2023 – Market

The corpse of the Silicon Valley Bank (SVB) hadn’t even cooled down when the US government and its agencies decided to give the financial system a lion’s rest — or, at least, they tried to. The horse tranquilizer, as usual, is made of money and the promise of money for those at risk of going to hell.

The measures are sensible and prudent, in themselves, probably inevitable.

In theory, from a rational perspective, they can contain panic, although the future of panics, by definition, does not fit into rational predictions. If people stop believing that their money is safe in the banks, it disappears, the banks fail.

Furthermore, the US government’s measures should have implications for the interest rate policy of the Fed, their Central Bank, and, by extension, for the BC of Brazil as well. The first decisions, in Brazil and in the US, will take place next week.

First of all, register the usual sinister irony: the ultraliberal investors of Silicon Valley, who detest the oppressive state, asked for state intervention even on Friday, when the bank of startups and venture capital firms ( “venture capital”) turned to dust. They wanted the government or state agencies to cover losses of SVB client companies, in order to mitigate the panic that was spreading among depositors of other small and medium banks. Shortly before asking for help, several of them had recommended partners, colleagues and cronies to withdraw their funds from the bank, which hastened the bankruptcy of SVB.

What did the US government announce on Sunday? Joe Biden has said he will do “whatever it takes,” a phrase that resurfaces with every financial crisis this century.

Their credit guarantee fund, the Fdic, covers losses for those who have deposits of up to US$ 250,000 in failed banks (here in Brazil, coverage is R$ 250,000). Those with the most money deposited would normally line up to receive theirs (if any) after the bank holdings had been sold and divided up (if any was left).

On Sunday, it was announced that their credit guarantee fund, the Fdic, will cover any losses for everyone at SVB and Signature (which went bankrupt on Monday), even those with more than $250,000 in deposits. It is the bulk of the money that would be lost on SVB, which had many companies as customers.

Where will the money come from? Banks will pay extra to the Fdic. It is a tax, in effect. Depending on market conditions, this additional contribution may be passed on to customers. It may be a small cost to avoid new runs (withdrawals) against banks and, therefore, new bankruptcies.

On the other hand, their Central Bank, the Fed, will offer friendly loans to banks that eventually get into trouble, as it did in the 2008 crisis and the shock of the Covid epidemic. The recipe is the same. The scale is smaller (at least for now).

Banks have holdings, assets, such as US Treasuries (loans to the US government). Much was bought when interest rates were very low (at the height of the epidemic). This means exactly that the price of these titles was high; lost value with the rapid increase in the basic interest rate, which rises because the Fed wants to contain inflation.

If banks (or any other bondholders) don’t have to sell those bonds, they don’t “realize” the loss, they don’t lose money, although their balance sheets are in fact a bit buggy (their holdings, at market prices, are worth less than they appear on balance sheets). SVB had to sell its bonds in order to cover customer withdrawals.

The Fed offers borrowed money to banks that could face the same problem as the SVB. As collateral, you get those government bonds (or similar ones) at face value, so to speak, not market value. That is, at the end of the day, the Fed is left with the risk of devaluation of these bonds, to summarize a slightly more convoluted story.

It doesn’t mean that the banks will take money right away. It means that the Fed was left with the risk that banks would lose money in the same way as the SVB, which was a trigger for the crisis. It is yet another attempt to contain the suspicion that more banks will have the same problem. They shouldn’t have, it seems. The problem in the SVB was especially big, it was astoundingly ignored by oversight and, in fact, resulted from an investment strategy half rudimentary and silly.

The government did not give money to anyone, immediately or directly. The line of credit is a promise, a guarantee in case of problems. Furthermore, shareholders of failed banks and those who lent to them will see their equity evaporate or nearly so. However, the Fed continues to fund free insurance.

Seems like sensible steps. In case the panic continues, with more bank failures, even healthy ones, the worst loser is the floor below, as Elio Gaspari says. However, once again and forever and ever the State appears or will appear to hold the bar of finance and help even libertarians with their mouths out. On the downside, there is some extra incentive for risky behavior (“moral hazard”). The rich should pay more to have informal insurance of this type and size, which would even be a liberal solution. But they don’t pay.

The risk of a financial crisis raised the debate on the future of the basic interest rate in the United States. A similar thing, on a much smaller scale, happened here because of the “credit crisis” triggered by fraud in Americanas and requests for judicial recovery by large companies.

The rise in interest rates helped to cause, as usual, accidents (the SVB crash and panic). How far can the Fed base rate (that of the “Fed funds”) go without causing further damage?

The crisis of confidence, with some impact on credit, may cool the US economy a little more and, perhaps in this way, contribute to controlling inflation. Or not.

There are no easy solutions, not least because the unfolding of the crisis is still uncertain. Reputable pundits in the US don’t have univocal answers, not by a long shot. More sensibly, it is said that the Fed will at least have to review the pace of interest rate hikes. Maybe take a break or move the rates very slowly.

If the measures announced by the administration on Sunday quell the panic, it will leave a scar, but the Fed could focus on the inflation problem. If the problems are mixed up (a crisis of confidence, perhaps a financial one, and persistent inflation), the issue becomes more complicated.

In the last crises of the century, financial rolls had a bad effect on the economy: the Fed contained interest rates (or cut them mercilessly) and there was no inflation. But this time it might be different. Inflation this high had not been seen for more than four decades.

The problem in Brazil is similar. The tightening of credit (high “BC interest rates”, credit drought due to problems with companies) could make the economy even colder. In theory, there would be less inflation. The prime rate could drop sooner and further.

That was what prices in the financial market had been indicating in the first third of March, here in Brazil. But, it should be noted, it will be necessary to know what will become of inflation — and even interest rates in the US. Now, the story has become more complicated, at least with more uncertainties, as has just been seen.

From the first signs, the trend would be for a drop in interest rates. Basic interest rates, which define the cost of funding for governments, plummeted across the world, from the United States to Germany, including Brazil. It may be an overreaction to a one-off crisis. But it was the scene early Monday night.