Within the last couple of weeks, global markets have become jittery about the banking sector, after a series of concerning events that started with the collapse of Silicon Valley Bank (SVB)—the biggest bank failure in the U.S. since the 2008 financial crisis. SVB and Signature Bank have been taken over by U.S. regulators, and in Switzerland over the weekend Credit Suisse was bought by UBS—the country’s biggest bank—in a deal totalling more than $3 billion, aimed at preventing a collapse.
For some, the turmoil among banks has brought bank memories of the 2008 financial crisis, leading to questions about whether we are heading into another prolonged recession. But economists say this time is different and caution against comparing the bank failures to those of 2008.
“It’s going to feel uncomfortable for a period of time but I don’t think this is going to turn into a full blown repeat of the financial crisis,” says Ryan Sweet, Chief U.S. Economist at Oxford Economics.
Why was Credit Suisse sold?
Credit Suisse has been plagued by a series of controversies and scandals in recent years but it was a comment from the chairman of its largest investor, the Saudi National Bank on March 15, days after the Silicon Valley Bank and Signature Bank failures, that caused investors to panic last week. Ammar Al Khudairy told Bloomberg that the Saudi state-backed bank would not increase its stake in Credit Suisse, in part because that would put its holding above 10%, which would involve further regulatory requirements for the investor. The comments prompted Credit Suisse shares to plunge. A near $54 billion loan offer from the Swiss central bank last week was not enough to shore up confidence in the banking giant, which was considered one of the 30 global banks deemed too systemically important to be allowed to fail. The deal with UBS was arranged by regulators in a bid to prevent what could have been one of the biggest banking collapses since the 2008 fall of Lehman Brothers. “It’s a shotgun wedding,” says Kathy Bostjancic, senior vice president and chief economist for Nationwide Mutual.
“This acquisition is attractive for UBS shareholders but, let us be clear, as far as Credit Suisse is concerned, this is an emergency rescue,” said UBS Chairman Colm Kelleher in a statement on March 19.
Before the UBS takeover, Credit Suisse had lost more than a quarter of its stock market value since the start of 2023, and more than 70% in the past 12 months. At the end of 2022, the bank issued a profit warning, announcing that clients had withdrawn billions of dollars in the fourth quarter.
“The concern about banking liquidity accelerated whatever issues Credit Suisse was already experiencing.” says Bostjancic. “There has been this overall concern about the banking system and Credit Suisse was already seen as a vulnerable bank.”
Has the sale resolved concerns in the financial sector?
The UBS acquisition and subsequent stabilization of Credit Suisse may not completely resolve the uncertainty in the financial markets, as investors may be skittish at the thought of other impending collapses, but regulators’ swift action should help assuage concerns, experts say.
The deal shows just how much regulators have learned from the mistakes of the global financial crisis—and how much better prepared they are now. “If they hadn’t acted swiftly, this would be a broader crisis than we’re talking about right now,” says Bostjancic. “They’re moving much more swiftly than they did in the past, which gives them a greater potential of containing this banking crisis.”
While it’s difficult to predict if and when “another shoe could drop,” says Sweet, “it does seem to ease a lot of concerns that this is turning into a systemic event.” Regulatory backstops put in place after the financial crisis appear to be working as they should to prevent the same thing happening, he says. “The Fed’s doing exactly what they’re supposed to do. They’re being the lender of last resort.”
The biggest loss came to those who hold Additional Tier 1 (AT1) bonds, which are risky and therefore offer investors higher yields. These instruments were created in the wake of the global financial crisis as a buffer to prevent taxpayers having to fund bailouts. They are known as contingent convertible bonds, meaning that their status can be changed if a bank’s capital falls below a certain level and they can also be converted to stock if the bank’s shortfall is large enough. In the case of Credit Suisse, AT1 bondholders saw 16 billion Swiss francs ($17 billion) worth of these bonds wiped out— and written down to zero—before shareholders took a hit, which is unusual in this type of scenario. Debt—including bonds—typically ranks above equity—or stock—in the event of financial distress.
Bostjancic says that the move could send ripples of fear through the bond markets, despite assurances from regulators that the move was an exception for this deal rather than a template going forward. “All of those investors who hold [AT1 bonds] or other convertible contingent bonds start to get concerned and think, What happens if there’s further failures? Would they get any money back?”
Which other banks are coming under scrutiny?
Amid heightened scrutiny from regulators, investors and depositors, there is no longer anywhere for troubled banks to hide.
“The tide is going out and exposing all of those that are swimming without a bathing suit,” says Sweet. “Any fissures in the economy or financial markets get exposed because of tighter monetary policy.”
One of the banks under scrutiny is U.S. regional bank First Republic. Last week, a group of 11 of the U.S.’s biggest banks rushed to restore confidence in First Republic Bank, pumping in $30 billion worth of deposits, with JPMorgan Chase, Citigroup, Bank of America and Wells Fargo each making a $5 billion uninsured deposit into the bank. Some big banks are reportedly discussing a further capital infusion into First Republic, according to the Wall Street Journal.
Experts say that the key is to prevent a crisis of confidence that would cause people to move their money from small and mid-sized banks into larger ones.
“It shows some of the risks of banking outside the big banks.” says Steven Fazzari, a professor of Economics at Washington University in St. Louis. “There could be an incentive for depositors to say ‘we want our money at these banks that are viewed as too big to fail.’”
Fazzari also says that risky investment decisions by Silicon Valley Bank and Credit Suisse made them more susceptible to crisis as interest rates rose sharply and trust wobbled. “It seems like SVB and Credit Suisse kind of pushed the envelope here,” says Fazzari. “That interest rate risk that’s come to bite them is not a surprise.” Silicon Valley Bank’s holdings of U.S. Treasury bills ended up being its downfall as it was forced to sell those holdings at steep losses to meet withdrawals by depositors amid rising interest rates.
Why would a bank crisis make a recession more likely?
With inflation stubbornly high, governments around the world have been working to prevent a recession, but it’s a hard balance to strike. In the Federal Reserve’s case, it has been gradually increasing interest rates, raising the cost of borrowing and discouraging consumer spending. Banks have underwriting standards, which help determine who to lend money to, but if they become concerned about the risks of lending and make it harder for businesses and individuals to borrow money, it could contribute to a recession, Fazzari says.
“If regional banks become more conservative, about who they make loans to, it could spill over to less demand, less sales, and a slowing of economic activity.” says Fazzari, “Is it serious enough to cause a recession by itself? I would think not, and certainly not nearly as serious as what happened in the global financial crisis.”
Markets will be watching the Federal Reserve’s interest rate decision on Wednesday closely. Despite the current bank turmoil economists have predicted that it will continue to raise rates, with a quarter of a percentage point hike forecast.
European Central Bank president Christine Lagarde on Monday welcomed Switzerland’s swift action on Credit Suisse but did not indicate any change in the central bank’s interest rate plans. “We are using the interest rates that we have and this was the case last week, this was the case before because we have enough ground to cover to move at the pace where we are moving,” she said. The central bank raised rates by half a point last week.
While some economic forecasts are indicating the chances of a recession have risen, economists don’t expect it to be on the same scale as the great recession, which lasted from late 2007 to 2009. Goldman Sachs is now forecasting a 35% chance of a U.S. recession in the next 12 months—up from its earlier prediction of 25%, Bloomberg reported.
Sweet says that Oxford Economics predicts a “mild recession” will arrive later this year, mostly due to the Fed “being too aggressive in raising interest rates.” Right now, households, corporations, and local governments “are flush with cash” Sweet says. “That should help limit the severity and duration of the recession.”
It has also helped that regulators have been swift to act, both in Switzerland and the U.S. On Tuesday, U.S. Treasury Secretary Janet Yellen sought to restore confidence in the banking sector, saying that the federal government would intervene if needed to protect smaller banks.
The economists say that the current banking turmoil is not a crisis, but a moment of panic, and that quick action from Swiss regulators meant that the economy is not facing anything close in scale to the banking crisis of 2008. “This isn’t a Lehman moment.” says Sweet.
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