Global Financial Crisis 2.0

This is just the beginning

From Tuomas Malinen’s Forecasting Newsletter.

Issues contributed:

• The U.S. banking sector is in dire straits with no quick or easy fix.

• U.S. authorities and especially the Federal Reserve went “all in” in their efforts to quel the panic caused by the failure of the Silicon Valley Bank.

• Issues (contagion) caused by Credit Suisse and its impending failure are unlikely to abate.

• We have entered a Global Financial Crisis 2.0.

Sometimes you throw in the “towel” with your longer-term forecasts just before it starts to manifest. This happened to me Thursday past week, when I wrote:

I made a bold call on 23 November, 2022, telling people to expect the “collapse of everything” to begin within the next four months. Apparently, this has not happened, and the likelihood of a such an event commencing within the next three weeks is relatively small (not nowhere near zero though).

The problems of the Silicon Valley Bank, SVB, escalated the next day.

The failure of SVB seems to have been a combination of compromised loan and securities books with a low share of retail deposits. Rapidly risen interest rates led Treasuries it held to lose value in crushing manner forcing the bank to fire sales and creating a dire re-capitalization need. Bank management, for some reason, made all this public leading to a run on its deposits succumbing the bank.

New York based Signature Bank failed because of a bank run caused by the failure of the SPV. According to the management of the bank, they had no problems until the run on deposits of the bank commenced late-Friday past week. On Sunday regulators announced a takeover of the bank to “protect its depositors and the stability of the U.S. financial system“. This week started with a panic. The usage of the discount window of the Federal Reserve grew to a record (including the Global Financial Crisis of 2008!).

The collapse of SVB (and Signature) is a mere symptom of a much wider problem. We touched it in our in-depth analysis on the U.S. economy in the turn of the month. First, I warned in my newsletter that the U.S. banking sector was much more fragile than previously understood. A bit later it was revealed that, due to the rapidly rising interest rates, the U.S. banks were sitting on a massive stockpile ($620 billion) of unrealized losses.¹

Then, in our Deprcon Special Issue of the U.S. economy, we wrote:

When recession starts to bite, this will, most likely, start a vicious cycle of de-leveraging, where increasing defaults of corporations and households sours the loan portfolio of banks leading them to tighten further, which leads to further defaults, and the cycle repeats. This is a classic process leading to a banking crisis.

This process is yet to begin. Thus, the failure of SVB and Signature Bank, the largest bank collapse in the U.S. since the fall of Washington Mutual on 25 September 2008 (remember that Lehman Brothers was an investment bank), were just the beginning. Also, the European banking sector is teetering on the brink, faced by prospects of the collapse of (formerly venerable) Swiss banking giant Credit Suisse, which is also one of 30 global systemically important banks, or G-SIBs.

Alas, we have entered a global financial crisis 2.0.

I have gone through the likely procedure to be enacted in, at least, with SVB in a Twitter thread, earlier. There are many good analyses on the direness of the situation in the U.S. banking sector (see, e.g., this) in addition to mine. We have gone through the options remaining with Credit Suisse in our Deprcon warnings (see this and this). So, I will not dwell on these any further here.

Rather, in this entry I will go through the repercussions of it all detailing why we are just at the ‘first innings’ of this crisis and what’s likely to happen next.

Into the (global) hole