News in Charts: New risks at smaller US banks

Following the collapse of two US banks and the takeover of the troubled Credit Suisse by its main competitor, UBS, prospects of a global banking crisis have heightened. Both US and Swiss authorities responded firmly and swiftly, helping to stabilise markets. While the banking system is not burdened by the same issues as during the 2008 financial crisis, the nature of the current challenges come with their own set of risks and it would be premature to conclude that we are out of the woods.

There are multiple reasons to indicate that we are not on the verge of a banking sector crisis similar to 2008:

• US and Swiss policymakers responded swiftly
• Banks, on the whole, have healthier capital positions than in 2007
• Household balance sheets and the housing market are in better shape than they were ahead of the 2008 banking crisis, at least in the US
• The ECB’s decision to press ahead with the promised 50 basis-point increase in its policy rate was a vote of confidence in the bloc’s banking system
• Interbank spreads in advanced economies remain low, suggesting muted contagion fears for now
• The loss provisions of banks that are systemically important are significantly lower now than they were in the build-up to the 2008 crisis, indicating that there has not been a fundamental and systematic deterioration in underlying economic conditions currently

Refresh this chart in your browser | Edit the chart in Datastream

While these factors provide some reassurance, economies are still facing sharp increases in interest rates, along with poor investment and risk management decisions by some financial institutions. Capital ratios are much higher than they were, but as we can see below, the capital reserves of a number of banks appear a lot lower when adjusted to reflect the current state of their losses as if those investments weren’t ‘held-to-maturity’.[1] This could become a serious problem were banks to be forced to sell their underlying assets, thus realising the losses.

Refresh this chart in your browser | Edit the chart in Datastream

Want more charts and analysis? Access a pre-built library of charts built by Fathom Consulting via Datastream Chartbook in Refinitiv Eikon.

There are two additional issues that have developed since 2008 that may be cause for concern. Smaller US banks[2]  are now holding a higher share of deposits than at the onset of the previous banking crisis, yet are not subject to the same regulatory safeguards as the largest US financial institutions.

Refresh this chart in your browser | Edit the chart in Datastream

Additionally, a higher share of the deposits are not insured than was the case in 2008, and this could make a potential run on the banks both more likely and more painful.

Refresh this chart in your browser | Edit the chart in Datastream

US policymakers have taken steps to address both these issues. First, they agreed to insure depositors at Silicon Valley Bank (SVB) in their entirety and stated that they would be willing to extend this promise to other institutions if needed. Second, they have tackled the problem of banks realising losses when selling Treasury securities, by allowing banks to swap such securities for a cash amount equivalent to par value for a year. While these steps may well create a moral hazard and potentially lead to problems down the line, they indeed help stave off current concerns.

It is worth remembering that the reason that the Fed and other central banks have been tightening monetary policy is to cool the economy. Admittedly, you might expect to see the impact of higher rates emerge in the real economy before the banks, but the fact that tightening is causing some economic pain should be expected. With the ECB hiking 50 basis-points last week, and the Fed hike of 25 basis-points on Wednesday, there is likely more pain to come, with Fathom’s central scenario still being that developed economies enter a recession later this year.

The views expressed in this article are the views of the author, not necessarily those of Refinitiv Lipper or LSEG

[1].       To create this chart, we adjusted the capital ratio by the disclosed total investment return of the bank’s held investment assets. This approximates what the capital adequacy ratio would have been, had the bank had to book the gains or losses of its investments against its Tier 1 capital.

[2].      Smaller US banks: assets of less than $1.322 billion.