On May 1, government bank officials sold Republic Bank to JP Morgan Chase, the largest bank in the country. Even the New York Times report about the sale recognized that the normal rules had been suspended when the interests of the big government-big bank cabal were at stake: “Lawmakers and regulators have spent years erecting laws and rules meant to limit the power and size of the largest U.S. banks. But those efforts were cast aside in a frantic late-night effort by government officials to contain a banking crisis by seizing and selling First Republic Bank to the country’s biggest bank, JPMorgan Chase.
At about 1 a.m. Monday, hours after the Federal Deposit Insurance Corporation had been expected to announce a buyer for the troubled regional lender, government officials informed JPMorgan executives that they had won the right to take over First Republic and the accounts of its well-heeled customers, most of them in wealthy coastal cities and suburbs.
But the resolution of First Republic has also brought to the fore long-running debates about whether some banks have become too big to fail partly because regulators have allowed or even encouraged them to acquire smaller financial institutions, especially during crises.
‘Regulators view them as adults and business partners,’ said Tyler Gellasch, president of Healthy Markets Association, a Washington-based group that advocates greater transparency in the financial system, referring to big banks like JPMorgan. ‘They are too big to fail and they are afforded the privilege of being so.’
He added that JPMorgan was likely to make a lot of money from the acquisition. JPMorgan said on Monday that it expected the deal to raise its profits this year by $500 million.
JPMorgan will pay the F.D.I.C. $10.6 billion to acquire First Republic. The government agency expects to cover a loss of about $13 billion on First Republic’s assets.
Normally a bank cannot acquire another bank if doing so would allow it to control more than 10 percent of the nation’s bank deposits — a threshold JPMorgan had already reached before buying First Republic. But the law includes an exception for the acquisition of a failing bank.”
Why should we care about this? Isn’t the massive graft of crony capitalism an everyday event? We should care because this takeover is just the tip of the iceberg. Our whole banking system might be insolvent. Manuel Garcia Gojon points out, “The taming of monetary policy necessary to slow price inflation has triggered a corrective trend in the valuation of financial instruments. Many big banks in the United States have substantially increased their use of an accounting technique that allows them to avoid marking certain assets at their current market value, instead using the face value in their balance sheet calculations. This accounting technique consists of announcing that they intend to hold such assets to maturity.
As of the end of 2022, the bank with the largest amount of assets marked as ‘held to maturity’ relative to capital was Charles Schwab. Apart from being structured as a bank, Charles Schwab is a prominent stockbroker and owns TD Ameritrade, another prominent stockbroker. Charles Schwab had over $173 billion in assets marked as ‘held to maturity.’ Its capital (assets minus liabilities) stood at under $37 billion. At that time, the difference between the market value and face value of assets held to maturity was over $14 billion.
If the accounting technique had not been used the capital would have stood at around $23 billion. This amount is under half the $56 billion Charles Schwab had in capital at the end of 2021. This is also under 15 percent of the amount of assets held to maturity, under 10 percent of securities, and under 5 percent of total assets. An asset ten years from maturity is reduced in present value by 15 percent with a 3 percent increase in the interest rate. An asset twenty years from maturity is reduced in present value by 15 percent with a 1.5 percent increase in the interest rate.
The interest rates for long-term financial instruments have remained relatively stable throughout the first quarter of 2023, but this may be subject to change as many of the long-term assets of recently failed Silicon Valley Bank and Signature Bank must be sold off for the Federal Deposit Insurance Corporation to replenish its liquidity. The long-term interest rate is also heavily dependent on inflation expectations, as with higher inflation a higher nominal rate is necessary to obtain the same real rate. It is also important to remember that the US Congress has persisted in not raising the debt ceiling for the government, which is currently projected to not be able to meet all its obligations by August. This could impact the value of treasuries held by the banks.
Other banks that may be close to an effective insolvency include the Bank of Hawaii and the Banco Popular de Puerto Rico (BPPR). The Bank of Hawaii’s hypothetical shortfall as of the end of 2022 already exceeded 60 percent of its capital. The BPPR has over double its capital in assets held to maturity. All three banks—Bank of Hawaii, BPPR, and Charles Schwab—have lost between one-third and one-half of their market capitalization over the last month.
It is difficult to say with certainty whether they are indeed secretly close to insolvency as they may have some form of insurance that could absorb some of the impact from a loss of value in their assets, but if this were the case it is not clear why they would need to employ this questionable accounting technique so heavily. The risk of insolvency is currently the highest it’s been in over a decade.
Central banks can solve liquidity problems while continuing to raise interest rates and fight price inflation, but they cannot solve solvency problems without pivoting monetary policy or through blatant bailouts, which could increase inflation expectations, exacerbating the problem of decreasing valuations of long-term assets. In the end, the Federal Reserve might find that the most effective way to preserve the entire system is to let the weakest fail.”
What is the answer to continued bank failures and insolvency? We need radical reform of the banking system, and the great Murray Rothbard has just what we need. “But in what sense is a bank ‘sound’ when one whisper of doom, one faltering of public confidence, should quickly bring the bank down? In what other industry does a mere rumor or hint of doubt swiftly bring down a mighty and seemingly solid firm? What is there about banking that public confidence should play such a decisive and overwhelmingly important role?
The answer lies in the nature of our banking system, in the fact that both commercial banks and thrift banks (mutual-savings and savings-and-loan) have been systematically engaging in fractional-reserve banking: that is, they have far less cash on hand than there are demand claims to cash outstanding. For commercial banks, the reserve fraction is now about 10 percent; for the thrifts it is far less.
This means that the depositor who thinks he has $10,000 in a bank is misled; in a proportionate sense, there is only, say, $1,000 or less there. And yet, both the checking depositor and the savings depositor think that they can withdraw their money at any time on demand. Obviously, such a system, which is considered fraud when practiced by other businesses, rests on a confidence trick: that is, it can only work so long as the bulk of depositors do not catch on to the scare and try to get their money out. The confidence is essential, and also misguided. That is why once the public catches on, and bank runs begin, they are irresistible and cannot be stopped.
We now see why private enterprise works so badly in the deposit insurance business. For private enterprise only works in a business that is legitimate and useful, where needs are being fulfilled. It is impossible to ‘insure’ a firm, even less so an industry, that is inherently insolvent. Fractional reserve banks, being inherently insolvent, are uninsurable.
What, then, is the magic potion of the federal government? Why does everyone trust the FDIC and FSLIC even though their reserve ratios are lower than private agencies, and though they too have only a very small fraction of total insured deposits in cash to stem any bank run? The answer is really quite simple: because everyone realizes, and realizes correctly, that only the federal government – and not the states or private firms – can print legal tender dollars. Everyone knows that, in case of a bank run, the U.S. Treasury would simply order the Fed to print enough cash to bail out any depositors who want it. The Fed has the unlimited power to print dollars, and it is this unlimited power to inflate that stands behind the current fractional reserve banking system.
Yes, the FDIC and FSLIC ‘work,’ but only because the unlimited monopoly power to print money can ‘work’ to bail out any firm or person on earth. For it was precisely bank runs, as severe as they were that, before 1933, kept the banking system under check, and prevented any substantial amount of inflation.
But now bank runs – at least for the overwhelming majority of banks under federal deposit insurance – are over, and we have been paying and will continue to pay the horrendous price of saving the banks: chronic and unlimited inflation.
Putting an end to inflation requires not only the abolition of the Fed but also the abolition of the FDIC and FSLIC. At long last, banks would be treated like any firm in any other industry. In short, if they can’t meet their contractual obligations they will be required to go under and liquidate. It would be instructive to see how many banks would survive if the massive governmental props were finally taken away.”
We must do everything we can to end our corrupt monetary system, which threatens to bring down our economy through runaway inflation and bank insolvency. We need to restore the gold standard and end the Fed.