As banking market disruption continues, we need some perspective to better qualify the decisions that policy makers, central bankers, and finance ministers will need to make – which deposits to guarantee, which banks to save, and who should pay the bill?
With the headlines coming fast and furious, policymakers need to frame the problem, define the decision makers and take a view on what that will mean for the rest of us. This is an emotional topic, and with the political environment being fraught with uncertainties, a pragmatic solution may not be easily achievable. While many things are still unclear, it is clear that there will be winners and losers.
To illustrate why this is the case, I surveyed an informal industry forum with some of the smartest people in tech. There are only two options and you must choose one. The economic environment and opportunity set is the same for both options.
If you had to lose a significant amount of your wealth, would you rather:
A – Lose 80% in the first year and spend the next 9 years making it back.
B – Lose 10% a year for the next 10 years.
The demographic surveyed, which is mainly comprised of young, smart and highly employable individuals in tech, overwhelmingly chose option A. There are definitely some very wealthy, young individuals belonging to that group, but we can assume the rest have an average level of wealth. They are a group who may not have much money now so they won’t feel the pinch of losing most of it now and based on their backgrounds, are comfortable betting on themselves. If these were the people deciding how to handle the current banking crisis, you can imagine the decisions being made would be different.
The reality is that central bankers, politicians and finance ministers will get to make this call and their vantage point is the polar opposite. Having significant wealth and generally being older they have no interest in starting over. They will make decisions that will spread the pain, certainly unequally, and over a long period of time.
To be clear, I believe the people in power have made the right decisions so far. Silicon Valley Bank (SVB) depositors needed to be rescued, and no, it was not a bailout. Everyone who took risk on SVB including bond holders, equity investors, and their executives got wiped out. However, depositors deserved to be spared as they did not enter into an agreement in which they intended to take risk.
They just needed a place to keep working capital to operate their businesses. It should be of no consequence that the majority of the largest depositors were wealthy, potentially large political contributors, or in a specific industry. The US economy would struggle to function if every business needed to figure out how to operate with less than 250,000 dollars in cash or figure out how to trade treasury bills.
With depositors of SVB, Silvergate and Signature Bank safe, the next question is, are all bank deposits safe? This very question was raised when Senator Lankford of Oklahoma asked Treasury Secretary Yellen if the depositors in his state’s banks would also be guaranteed. To which Treasury Secretary Janet Yellen replied, only if the banks were systemically important.
Her response alluded to the fact that the US government, at least at this point, is unwilling to guarantee all depositors. What’s even worse is that all banks will have to pay for the most recent rescues with the additional fees assessed by the FDIC. So, no guaranteed rescue for my bank but I need to pay for the rescue of other, more important banks? Doesn’t seem too fair or equitable.
Now that it’s clear we are not all going to make it, who will pay the bill? In my view the people who chose option B will make those who chose option A pay the bill. If you believe people act in their own self-interest and those in power are more interested in option B, we can expect the pain to be elevated and prolonged. This pain will come in the form of chronically high inflation, less access to leverage and funding, lower real yields for savers, and a higher cost of doing business. These measures will slowly bleed the real purchasing power of savers and limit the potential of investors and entrepreneurs. As time passes you will become less wealthy even if your salary and savings nominally go up.
That’s the tradeoff. Instead of losing 80 per cent of your money swiftly as banks fail, depositors lose their savings, unemployment skyrockets and successful businesses will slowly cease to exist.
So the questions bear repeating – do you want to lose it slowly or all at once? And do you even get to choose?