The Federal Treasurer got into the banks last week for thinking of lifting interest rates above any move from the Reserve Bank. Seeing that Macquarie and Adelaide Banks have already lifted rates for margin loans, mortgages and other products, it was very much after the event. But was there some truth in what Costello had to say about the banks and their reaction to the subprime mess in the US and associated credit freeze which have pushed up rates?
You see, there was a large element of hypocrisy in the comments from NAB CEO and Australian Bankers Association chairman John Stewart and the new CEO at the ANZ, the very English sounding Mike Smith. There they were saying rates would have to go up regardless of what the Treasurer said: it was the market you see.
And yet not an admission that they and their fellow bankers in Australia and around the world had been the major (if the only) factor in driving up rates because of their pell mell dealings in off balance sheet dodgy deals in subprime mortgages, collateralised debt obligations, and other invented securities.
The banks (Wall Street, Australian, Japanese, British, Chinese, German, you name it) all engaged in foolish lending practices of borrowing short and lending long and got caught. And now they think we customers should bail them out; while as the same time the US Federal Reserve is doing its best to bail them out as well.
The banks were responsible for setting up off balance sheet operations called conduits and SIVs (Structured Investment Vehicles), with variants called SIV lites (which had little controls). No one forced them to do that, or to buy dodgy securities called CDOs (Collaterised Debt Obligation, or CLOs, Collaterallised Loan Obligations, or other securities). The regulators nor government forced them; no one except their desire to make more money as painlessly as possible.
These conduits and the securities they invested in were all devised by highly paid bank employees or some sort and then signed off by bank managements and boards. It was all part of the shell game known as the subprime mortgage boom whereby money was lent to millions of people with little or no documentation or thought about whether they could afford the loans or repay them; these loans were then cut up and sold around the world, making more money
No one forced the banks to do this: they were active participants in all parts of the shell game.
Banks set up these things off balance sheet: so they could avoid the gaze of regulators, to avoid being forced to allocate expensive capital to support them; all in the name of generating higher profits, or keeping big clients happy (hedge funds and private equity groups), and keeping shareholders happy with higher than expected profits. Of course executive pay and bonuses and other payments were boosted as well from the fees and profits generated while the bank boards were happy as the better than expected profits.
And then the subprime mortgage market started tanking as the stream of suckers waiting to be sold baited home mortgages dried up, then those fancy derivatives started going bad for more and more deals (CDOs) and then the world started waking up to the disaster.
Mike Smith, the new head of the ANZ, was a very senior executive in HSBC (in charge of Asia). HSBC is still the biggest loser with provisions and losses in March of more than $US10.5 billion. He refused to go to the US to whip the business into shape and instead took the ANZ job when passed over for the top job at HSBC. He knew how to sidestep a hospital pass.
The credit freeze was actually triggered by the banks: in August BNP Paribas refused to support three conduits with $US2 billion because there was no liquidity so the entire financial market froze (with the exception of the German and US Government securities markets). Why did it freeze? Because none of the banks around the world (including all of ours) would lend to one another, except at rates which indicated that the borrowing bank was a basket case.
These banks had the money to lend, but refused because they knew that their own situations were difficult with their conduits and SIVs stranded with no liquidity and falling asset values.
The big five Australian banks had an estimated $25 billion in loans and securities tied up in off balance sheet operations, which they have now been forced to finance or refinance, which has absorbed precious liquidity and capital at a time when the liquidity freeze is still around. Not a mention at the ANZ press conference last week: the ANZ was one of the first to own up in September to its off balance sheet deals.
Our money market rates are still well above the cash rate: around 6.90% for 30 day bank bills to over 7.11% last week for six month or 180 day bills. Even if the RBA lifts its cash rate by 0.25% next week, market rates will still be higher, hence the push by banks to lift rates again. But why should they be allowed to and why should the community generally be forced to help these banks and managements out of a funding predicament entirely of their own making.
Bank shareholders and managements should be forced to suffer some losses to understand their foolish behaviour. Rating agencies quite often knew about them but didn’t say a word and some bank analysts knew about them, but didn’t say a word because some of their employers were making fees from helping the banks do it, or were up to their necks in the US and Europe in the scam.
The desperate Mr Costello and his warnings of tsunamis missed the point completely in his opposition to the banks’ threats to further lift rates. The US Federal Reserve’s rate cut last month and the one expected this week will further help these banks avoid the full financial price for their poor lending (borrowing short and lending long). Not enough bankers have lost their jobs.
Why should bank customers in Australia be forced to finance this foolishness? It is immoral. And the bankers will escape the consequences of their dodgy practices.