Banks are well positioned to help customers weather this crisis
WASHINGTON — We’ve all been here before. Sinking markets, no safe haven, drastic government intervention. And no end in sight.
But we are in a very different crisis than in 2008 and it is going to necessitate a very different and altogether untested set of tools to get us back to normal. And the sooner banks understand the difference, the better.
The 2008 financial crisis was fundamentally an asset bubble — not unlike the asset bubbles in tulips, railroad stocks, or oil that came before them. The precious thing in this case was home mortgages, and when the bubble burst, the fallout hurt ordinary people — as asset bubbles ordinarily do.
But the financial crisis was about putting humpty dumpty back together again. Managing the crisis meant keeping money flowing to those large institutions that abetted and in many cases perpetuated the crisis, because the alternative was a catastrophic consequence for everyone.
The coronavirus crisis that we are now embarking on is a much different thing. The problem here is not the comeuppance of rampant speculation and the impact on the broader economy, but rather the evisceration of the economy upon which the financial sector relies.
In 2008, the problem was that too many home mortgage loans were made for which the underlying economics didn’t make sense — the borrower’s income couldn’t cover the value of the home. In 2020, the problem is that mortgage loans were made that do make sense, but nowhere in the paperwork did someone ask whether the borrower would be able to make payments if they suddenly were required by law to shelter in place for a month — or six months, or a year.
No one asked that because that is an unreasonable requirement for any borrower — and if one did, virtually no loans would ever be made. And if no loans are made then nothing good that ever comes from loans ever gets made, either. All loans are made under the assumption that business will be to some extent usual, with some account for downside risk.
To be sure, policymakers have opened the door to allowing loan forbearance. And the steps regulators have taken and appear ready to take to safeguard the banking system resemble in many ways the government’s response to the 2008 crisis.
Treasury Secretary Steven Mnuchin on Sunday highlighted details of a rescue package suggesting there are dire concerns about the financial system and the economy at large. The package reportedly includes as much as $4 trillion of liquidity support from the Federal Reserve. According to Politico, the Senate’s economic stimulus plan could authorize the Federal Deposit Insurance Corp. to guarantee business transaction accounts, similar to a program the FDIC launched in 2008.
But this crisis is very different in many ways. Creditworthy borrowers — by any definition of the term — find themselves out of work and without income. That means without income to pay their loans or their rent, but also without income to buy food, to entertain themselves or their children, and with the uncommon stress of having to shelter in place — wherever that place may be. For how long? We don’t know. We can’t know.
With the government’s backing and thanks to the unprecedented capital levels they built up since the 2008 crisis, banks would be in a rare position to provide relief to their customers in a way that they never have before. Something like 90% of households have a bank account of some kind. That means that if the right vehicle for individual relief were conceived, the banking industry would be a viable conduit for delivering that relief. The question — and one that has to be answered urgently — is what form the relief might take.
An unsecured 18-month line of credit, offered by all American banks, pegged to the Federal Funds Rate of 0.025% could be that vehicle.
There are obvious problems with that proposal, and those problems are the reason banks aren’t offering it now. There’s no money in it, and no collateral.
But banks are now being offered access to the Fed’s discount window at that rate — albeit under shorter terms — and this would effectively extend that credit to the heart of our crisis. The regulators have also encouraged banks to dip into their liquidity and capital buffers to boost lending and other resources to segments of the economy hit by the pandemic.
Obviously there are still significant capital considerations that regulators would have to address for a credit line like that to work. Banks couldn’t be expected to hold capital against losses from nonperformance of these loans, or else they just won’t do them — and regulators would penalize them if they did. That probably means some form of explicit government backstop, which in all likelihood is something that regulators would prefer to do under direction from Congress.
There’s also the significant question of whether a loan like that would perform. If the coronavirus collapses the economy for three months and it comes roaring back — a somewhat optimistic scenario — one would still be asking lower-wage workers to pay 12 months of bills with nine months of income. And solving this crisis by offering ordinary people debt is not ideal.
But that arrangement is something like what the financial sector received with their bailouts in 2008 — free money that they had to pay back when they got back on their feet. And the logic of doing that was that the consequence of not doing something like that was worse than the moral hazards of giving those industries bailouts.
The same principle applies here — the consequences of not putting enough money in people’s hands that they can use to survive now are greater than the problems associated with figuring out how they will pay it back.
The Fed has made its discount window widely available, but that has little penetration into the real economy. The crisis this time is in the real economy, and banks are uniquely situated to deliver the relief that is needed where it is needed most.
Direct payments or tax subsidies from the government run the risk of running out and not being enough. The structure of a low-interest loan deters the potential for abuse, and using banks as an intermediary means that the institutions that know their customers’ profiles the best have the best chance of structuring those lines of credit in a way that meets the individual’s needs while the coronavirus pandemic is under way.
These are details — important details, but details nonetheless — that can be dealt with once the crisis has passed. If there is a uniform, low interest line of credit available to most of the people who desperately need it, it can buy those people some time, and it can buy the government some time to figure out how to manage it. But however it gets figured out, the debt will be in one place and a broader societal catastrophe can be averted. Humpty-dumpty is falling off the wall as we speak