
Banks Look Safer with Deposits - paulpauper
https://www.bloomberg.com/opinion/articles/2019-05-06/banks-look-safer-with-deposits
======
logicalmind
I work in finance and there has been a lot of interest recently in creating
financial products that are eerily like mortgage backed securities, but for
other types of loans. A lot of these are (yikes) unsecured loans. A person
loses their job and needs a personal loan from a bank or credit union to cover
their expenses until they find a job. A person buys a car, an RV, etc.

In order to offload the risk of these loans, the original lender is packaging
them up together. Then they can sell ownership of the consolidated loans to
other financial institutions. The original lender is only required to retain
around 10% of the consolidated loans.

Needless to say, the institution originating the loan ends up disconnected
from the risk once it is sold to other financial institutions. At least
they're insured, right?

~~~
ancorevard
"The original lender is only required to retain around 10% of the consolidated
loans."

That part may be the only redeemable part of this process.

Because, hey...let's package these into collateral debt obligations, and then
hey...let's engineer these CDOs with tranches of various credit quality as
rated by rating organizations not understanding what they are rating and
afraid of asking for more information because their profit is based on volume
of these ratings and not quality, and hey...let's create a second CDO based on
the lowest rated tranche of the first CDO, and boom, that low credit score is
magically now a AAA, and why not create tranches of this second CDO too. Then,
let's create a market out of this with a way to short the CDOs, and let's call
this new instrument something ridiculous as Credit Default Swap. No one is
ever going to need those, because everybody in the financial industry believes
the underlying assumptions that 1) the real-estate prices will forever go up,
2) and there is no chance that more than 4% of sub-prime mortgages are going
to default. Seeing that this makes a lot of sense, let's make a trillion
dollars worth of these and we don't have to put them on the balance sheet
because they are AAA rated, safe as the US Treasury bonds, and so why not get
leveraged 40 to 1 on these. Oh wait, that's already been tried.

~~~
et2o
This is actually one of the most succinct (ever so slightly hyperbolic) write-
ups of the 2008 financial crisis I've seen.

~~~
TylerE
That’s because OP ripped it off word for word from Wolf of Wall Street

~~~
acct1771
Reads like that, but, if you've seen it (or haven't) how else would you
describe the concept?

~~~
TylerE
Not sure what you mean.

What OP copypastaed is word-for-word from a monologue in the movie.

~~~
ancorevard
That is impossible. I've never seen the movie.

------
elliekelly
> “Regulation is a playground for smart people,” said Oliver Ireland, a former
> Federal Reserve lawyer now in private practice, where he counsels banks on
> complying with Dodd-Frank. “It was inevitable that this set of rules was
> going to start to influence how people structure transactions.”

Regulators need a way to run some sort of "bug bounty" program for loopholes.
If the government could crowdsource their limited resources in the right
direction maybe they wouldn't be perpetually 5+ years behind.

~~~
stretchwithme
Just stop subsidizing the risks they take. Don't insure them.

Because of depositor insurance and pension fund insurance, risks are not
treated as real risks. People know their lack of consideration of risk will be
bailed out.

Make two kinds of banks. One very simple and safe with no incentives for risk
taking. Another that is unregulated and you are risking your money. Those who
don't want to deal with risk can put their money in the former and earn a safe
return.

And that could be achieved by limiting a bank to writing mortgages, only
loaning the first 60% of the 5-year moving average of a house's price. Require
20% down and let higher risk lender's lend the rest. Such a bank should also
get paid back first.

This safe bank would not resell its mortgages and managers would never earn
bonuses for a higher rate of return. Don't even offer checking accounts, just
savings accounts. Don't have branches.

Keep the books completely open to the depositors 24/7.

~~~
Spooky23
Insurance has nothing to do with this. The financial regulatory changes of the
1990s recreated this problem that we have today.

~~~
stretchwithme
Of course it does. Depositors currently don't think about the risks to their
money at all, because they know they will always be made whole.

Would you bother with your seat belt if the doctor would completely heal you,
regardless of the cost, without any direct cost to you?

Of course, the reality is we do have to pay for every bailout. As taxpayers.

Or, rather, some day our children will.

Unless, of course, where you put your money is on you. Then there'd be real
interest in banking with low risk.

~~~
elliekelly
I'm curious why you think the solution is to have everyday consumers "police"
the risk to the financial system instead of giving regulators more
resources/teeth?

~~~
stretchwithme
Because it will save a lot of money for them in the long and we'll have fewer
disasters that risk the world economy.

Human intelligence is distributed and responsibility should be as well.
Concentrate the power and people take advantage and then weasel out of
responsibility, leaving others to suffer the consequences.

The well connected get their risks socialized, because they are "too big to
fail". The same story is repeated over and over again.

People who take the risks should get both the losses and the benefits. It's
called "skin in the game".

------
joeyrideout
I would caution people to not have a false sense of security ("generals tend
to fight the last war" and all that). Two important places where banks,
particularly central banks, currently do NOT look safer:

A. Bond market liquidity, especially in places where negative interest rates
have been adopted [1][2].

B. In times of crisis, bail-ins can still happen [3].

These two issues go hand-in-hand and will probably cause a lot of trouble in
the financial system going forward.

[1] [https://www.armstrongeconomics.com/world-news/central-
banks/...](https://www.armstrongeconomics.com/world-news/central-banks/bank-
of-japan-the-bond-crisis/)

[2]
[https://www.armstrongeconomics.com/products_services/socrate...](https://www.armstrongeconomics.com/products_services/socrates/liquidity-
crisis/)

[3] [https://www.bloomberg.com/quicktake/bail-
in](https://www.bloomberg.com/quicktake/bail-in)

~~~
caprese
in what sense?

bail-in's don't burden public coffers and would target disdain at the 1
company that was overlevered, instead of politicians

are you referring to the safety of your deposits? because that is different
than causing trouble for the financial system

~~~
joeyrideout
In the sense that Main Street may end up paying for Wall Street's mistakes
again. It happened in southern Europe already this decade. If bond market
liquidity dries up, the average consumer's uninsured deposits will take a hit.
People start to horde cash and the economy suffers.

~~~
fwip
Does the average consumer have uninsured deposits?

~~~
metanoia
On paper, no. We're all insured by the FDIC/NCUA up to $250k per institution
(or account? I forget). In reality, I think the systemic risk means everyone
has deposits on the line as the FDIC can't cover multiple bank failures.

~~~
JamesBarney
If there were multiple bank failures the treasury would loan the FDIC as much
money as needed to cover it.

~~~
caprese
under what provision? pure discretion? has this ever been tested?

in 2008-2010 the FDIC got on the phone and brokered sales of smaller banks to
large banks, specifically because they needed to do their part to stave off
disaster with their thin credit line. Congress didn't ask them to do this,
they just got on the phone because they had live capitalization ratio data.

------
viburnum
That’s the crazy thing about 2008, when big banks were funding their
operations with overnight loans from each other (and then lending to hedge
funds at insane leverage ratios), all it took for a bank run to happen was to
stop lending for a single day. It’s not like you needed a panic, just, “nope,
not today.”

~~~
logicalmind
What if I told you that some financial institutions could move money off to
some temporary location where it sits for a few hours, then move it back.
Since this money sits elsewhere for this time, it doesn't count towards their
regulatory ratios.

~~~
cm2187
In theory you are supposed to comply with your regulatory ratios at all time.
The excess over these regulatory minimums can fluctuate, but if you are in
breach, you need to notify the regulator.

~~~
logicalmind
This is a service provided by the regulator...

[https://www.frbservices.org/resources/central-
bank/faq/exces...](https://www.frbservices.org/resources/central-
bank/faq/excess-balance-account.html)

------
somberi
Auto loans seem to be the next crisis. One link for the argument and one
against below:

For: [https://www.nbcnews.com/business/business-
news/more-7-millio...](https://www.nbcnews.com/business/business-
news/more-7-million-americans-are-seriously-behind-their-car-payments-n971016)

Against:
[https://www.bloomberg.com/opinion/articles/2019-02-20/subpri...](https://www.bloomberg.com/opinion/articles/2019-02-20/subprime-
auto-loans-are-not-like-subprime-mortgages)

~~~
pmiller2
I agree that auto loans are an increasing risk these days. At least cars are
much easier and legally more straightforward to repossess than houses, not to
mention they cost a whole hell of a lot less.

------
stretchwithme
Could you make a perfectly safe bank if it ONLY wrote mortgages and only
loaned the first 60% of the 5-year moving average of a house's price? If it
require 20% down and let higher risk lender's lend the rest. Arrange it so
your bank always gets paid back first.

Don't allow reselling mortgages and managers never earn bonuses for a higher
rate of return. Don't even offer checking accounts, just savings accounts.
Don't have branches.

Would we even need deposit insurance for such a bank?

~~~
patio11
As described it is an inferior product on both sides of the transaction to
ones which are extremely available in the status quo, unless you propose
simultaneously making the interest rate the best one in the country, and so
you wouldn’t be able to get it off the ground.

If you did make the interest rate attractive enough to get folks whose job is
shopping for the best interest rate, you’re in for serious bad news any time
the bank falls behind competitively risked interest rates. It will see massive
outflow of deposits, be unable to pay them, and have to liquidate its
mortgages, potentially at a severe discount (they’re illiquid by nature,
right, and may have declined in fundamental value due to e.g. interest rate
changes in the interim).

Now your bank is failing and, as soon as you do the responsible think and
report insolvency or inability to satisfy withdraws, instant bank run.

~~~
stretchwithme
Well, you could change how banks fail too.

When a bank fails, the owners would lose their investment. But the assets of
the bank, its loans, could be put into a public corporation and shares
distributed to the depositors in proportion to their deposit.

Then depositors could sell and get 80 cents on the dollar or whatever. Or the
depositors can wait awhile and sell when the markets recover. They might even
make more than the interest they were promised.

Such mortgages are fundamentally sound, so for most people the sensible thing
is to wait. They can also sell some and keep most to get through their own
short term cash flow needs.

~~~
cm2187
If the deposits are insured I don’t see why they should get any upside. If the
creditors are uninsured, this is effectively how bail in works. You are either
written down or converted into equity, and existing shareholders are wiped
out.

------
princeb
consumer deposits would probably be less sticky if consumers were required to
confirm every single day that they would like the banks to carry their
deposits over to the next day, which is what an overnight repo is in essence.

the nature of consumer banking is that the nitty-gritty grindy bits of _real
finance_ \- overnight and term repos, daily settlements, credit risk and value
adjustments - are abstracted away (for a fee) from the typical user who
doesn't really want to care about these things, even if it will do them a lot
of good to at least consider these effects.

------
jondubois
If the financial system were a software system, it would be in dire need of a
refactoring.

Complexity makes systems brittle and exploitable. Also, most of the complexity
adds no value. For example, do we still need debt? Wouldn't it be better for a
company to just create and sell shares if they wanted to raise funding?

In a healthy economic environment, loaning money doesn't make any sense. When
you make a loan, you limit your upside potential but you're still exposed to
the full downside risk (e.g. if the debtor goes bankrupt). The only real use
case for debt is to create speculative bubbles... You manipulate markets to
inflate asset prices so that people need to borrow more money so that the
interest payment on the loan taken for that asset is more profitable than any
real investment return that the asset could have generated organically.

~~~
voldacar
>In a healthy economic environment, loaning money doesn't make any sense.

Given how healthy the economy is right now, and how low interest rates are
right now, the market clearly disagrees

~~~
dd36
How healthy is it? Not healthy enough for the Fed to increase rates.

~~~
voldacar
Oh I agree that current rates are totally artificial, but it's silly to say
that in a healthy economy, people just won't want to loan money.

