Allan Sloan: Why on Earth Should We Protect Banks From Their Mistakes?

From the latest issue of Fortune comes this intro to an article by Allan Sloan:

This may sound silly, but let me ask you a question. Let’s say that I maxed out my credit at Citigroup to speculate on a house whose market price is now less than what I paid. Citi wants its money, but instead I say, “Sorry, the house is selling for less than its true value. As soon as it sells for what it should, I’ll send you a check.” What do you think Citi’s reaction would be? How about “Sir, where should I send the repo man?”

Well, folks, Citi seems to have put itself in just such a fix by borrowing lots of money to buy assets that have dropped in market value. But instead of summoning the repo (as in repossession) man, some of the world’s biggest hitters are trying to set up a huge fund to buy time for Citi and some other institutions with similar problems.

Allan makes a good point.

What amazes me about this credit mess is normally banks and brokerage firms treat the general public as if they are idiots and don’t know how to manage their money. Yet, these very same banks and brokerage firms get caught up in this subprime mortgage mess. It’s kind of funny if you ask me.

What should be done?

I have no idea. Although banks will be hurt, I don’t think a taxpayer bailout is necessary. We talked about this before and almost every commenter was in agreement on the issue.

Allan’s advice is for banks that are in trouble to first cut their dividend and if that’s not enough, issue more stock. This would hurt if you are a shareholder in a bank stock. But, as Allan says (and I agree):

We small fry take chances when we borrow, and we pay the price if we’re wrong. Big fish should have to do the same.

16 thoughts on “Allan Sloan: Why on Earth Should We Protect Banks From Their Mistakes?”

  1. When a person loses his house, it’s terrible for him, but doesn’t really harm anyone else. When a bank the size of Citi goes under, the pain is spread far and wide. That is the logic of “too big to fail.” Not vouching for it, but it’s the answer to your question.

  2. Exactly. The bank wouldn’t be happy with me if I couldn’t pay back my loan to them. I’d have to declare bankruptcy or have any associated assets repossessed. Why should they be any different.

    I like your point about banks thinking we don’t know how to manage our money. The funny thing is, the banks are run by regulary people who don’t know how to manage their money either.

  3. Allan’s advice sounds good–I mean, there’s no perfect way to deal with this and we don’t want the bank collapsing. But when you buy stock you take on the risk of owning part of that company, so a move that hurts the shareholders hurts those who are trying to make money off them anyway. Hopefully it won’t hurt those who bank with them.

  4. I’m not in favor of letting large banks fail, as that could lead to chaos in the financial markets. I am in favor, however, of large banks cleaning out their executive ranks of those responsible for getting them into the mess – without their golden parachutes. Boards of directors and shareholders should be demanding that.

  5. Your point about “normally banks and brokerage firms treat the general public as if they are idiots and don’t know how to manage their money” is interesting.

    While the blame for the sub prime mess can be spread far and wide, in many cases the borrowers were less than smart. Disclosures were provided, yet were not read, and these borrows were in debt up to their eyeballs with no wiggle room at all. Then, when rates rose, as the disclosures said they could, the people cried foul.

    I can remember applying for a mortgage and found that the banks were willing to lend me much more than I was comfortable borrowing. Did I take it all? No, I understood what my financial situation was and borrowed what I could afford to borrow and understood the dynamics and specifics of the loan.

    Perhaps if more people would take responsibility for their own actions, they would be more in control over their own lives. And while there were probably numbers of people who where swindled, there were also goodly numbers who chose not to take the time and understand the ramifications and requirements of the loan papers they were signing.

  6. A facet of subprime is a mess. It should be noted that there is a differentiated value for subprime or stated income loans in the commercial lending market. This loan type is not entirely bad despite the abuse of some in the residential lending arena. Oftentimes, individuals that want to start or acquire a small business, purchase a gas station, acquire a motel, open an auto repair shop or any of a myriad of sole proprietor establishments, and do not have the portfolio that would make them attractive to the big box leaders. Lending companies like Ocean Capital in Rhode Island offer subprime and stated income loans by using up close and personal evaluations of the borrower and the opportunity. We need companies like this to support new business opportunities.

  7. it’s really a double edge sword that invariably costs the consumer more. Even if the banks free up cash by lowering/getting rid of dividends for a period or issuing more stock, the banks aren’t going to increase the benefits like lowering borrowing rates or increasing savings rates to consumers. They will maintain corresponding rates until their costs are made up. So the consumer doesn’t win out anyways.

    If the government jumps in to save the banks by continuing to lower rates, the consumer still gets screwed, because savings rates will drop while borrowing rates will stay static. If anyone has any question to this, notice that the fed has dropped rates by .75%, the banks have responded by significantly reducing savings rates, but holding fast on borrowing rates.

    Allan Sloan is gaining some attention for bashing the banks as is popular at the moment, but in reality it really does not matter in the end.

    It is too bad people who should know better aren’t heeding their advice about not panicking, because this is exactly what is happening. The fallout is all speculative and guessing. If people would let the actual figures come about, we wouldn’t be in this frantic mess. The banks right now are reacting based off of very aggressive figures for the damage. My assessment is that they are over correcting at the moment, and when all is said and done the actual figures will not be nearly as bad. Besides, the major banks are only writing off about $50-$100billion cumulatively, which is literally pennies in the big scheme of things. So I’m not sure where the severe problem is. I think the subprime and credit crunch are taking a life of their own without actual hard numbers. Another 6 months will tell, which isn’t a very long time frame at all.

  8. It’s a bad situation either way. It’s unfair to bail them out, and lowering interest rates leeds to inflation, but as Kirt says banks problems hurt everyone else. Just look at the last week at the stock market. Even if you say – it is temporary, this temporary drop affects more than just stock prices.
    Banks having problems may lead to layoffs amoung bank employees. A technology company, that sees decreased demand because it sells to banks, may follow suit. So it is a no-win situation.

    Now, if we could just outsource banks’ CEOs jobs…

  9. A bailout is definitely a bad idea, it really only encourages banks to be irresponsible in the future. The industry as a whole needs to learn a lesson that they should only give out loans to people who can actually pay them back.

  10. It takes two to Tango. Banks are irresponsible because they known that what ever happens, the country/world/goverment can afford a huge bank crisis.

  11. Sorry, I mean can not afford a huge bank crisis. Where ever there is a Central Bank, you´ll findbank crisis.

  12. This happens every time the deregulate the financial industries. Remember S&L?

    Although the pain of letting these guys go under would be spread wide, the pain of letting them survive their poor decisions only gives them incentive to keep making them. After all they raked it in during the boom, and their losses get covered in the bust. Nice work if you can get it, but you see how that actually gives incentives for the big players to create bubble economies.

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