LEAP/E2020 Alert: Breaking phase ahead for the global financial system in 2008 !
Public announcement GEAB N°20 (December 16, 2007) –
The rapid aggravation of the global systemic crisis as its phase of impact unfolds (1) has brought our researchers to estimate that the contemporary global financial system will reach a breaking phase in the course of 2008.
Crisis follow-up indicators now show that we should no longer only fear the failure of some large financial institution (and of many small ones) in the US first and the in the rest of the world (cf. GEAB N°19), but that the global financial system itself is structurally hit.
The network of global central banks’ repeated incapacity to control the « credit crunch » when the two historical pillars of the contemporary global financial system (a US economy in recession and a US dollar in decay), reflects the growing surge of centrifugal forces within this very system.
Indeed it is no more a matter of competence or of magnitude of the corrective actions implemented by central bankers. These times are over since summer 2007 and, according to LEAP/E2020, we are now witnessing an increasing divergence in economic interests among the different components of the global financial system.
The expected failure of the Fed’s most recent attempt to coordinate a joint action of the main central banks in order to feed the banks in US dollars (2), is particularly revealing. This action meant to restore confidence in the financial system by two means:
. reinstating the now moribund inter-banking market, by proving the existence of a « joint force de frappe (strike force) » of global central banks.
. enabling large financial institutions in distress to anonymously restock in US dollars, in exchange of their assets being accepted as discount window collateral (i.e. worth their value some months ago, when they were still worth something) (3).
Of course the first goal is predominant, as reinstating of interbanking market is the only means to bailout banks in distress in a sustainable manner. However, it is already clear that the target has failed to be reached (4). The LIBOR (London Interbank Offered Rate), a key indicator of the health of the interbank market, has not moved an inch from its highest levels ever reached (5). “Psychologically” speaking, the global stocks decline recorded after the action of the central banks was announced, proves this if any message went through, it is that the situation for large US banks is even worse than announced in the past months (6).
Concentration of US Commercial Bank Derivatives on 09/30/2007 – Source Federal Deposit Insurance Corporation (FDIC) – Comment: 7 banks (7) concentrate 98% of all derivatives, i.e. USD 155,400 billion; while the other 929 banks own 2% only, i.e. USD 2,900
According to LEAP/E2020 research team, it is already a fact that after it lost control over interest rates (cf. GEAB N°16), the US Federal Reserve has now lost two more of the attributes that characterized the post-1945 global financial system: its credibility as a proactive player capable of influencing heavy market trends (8), and its capacity to organize and drive global central banks altogether along its own rhythm and goals. In doing so, it has just lost the ability to steer by itself the entire global financial system, an ability it has gained after 1945.
Even though today, financial markets are mostly receptive to the loss of the first attribute (9), our researchers estimate that it is the loss of the second attribute (and the impact on the system’s leadership) which will result in the global financial system’s break sometime in the course of next year, probably by summer, when the effects of the ongoing US recession will start being fully felt and when Asians and Europeans will decisively be compelled to impose their own priorities to the “Fed-pilot”.
In this 20th issue of the GlobalEurope Anticipation Bulletin (December 2007 issue), our team describes in detail the characteristics of the growing divergences between the four main central banks (US Federal Reserve, European Central Bank, Bank of England, Swiss national Bank).
According to LEAP/E2020, these crucial trends, coming at a time when the entire magnitude of the US recession effects has not yet been reached (in Asia and the US in particular), illustrate the rapid increase of centrifugal forces which, according to our anticipations, will lead the contemporary global financial system to a break point by summer 2008.
This break point will entail numerous disastrous effects for the world’s largest financial institutions, in particular for all those who do not yet fully understand the meaning of ongoing tendencies and therefore who remain largely involved in the US dollar system currently imploding. These institutions will experience, to a much larger degree, what those who failed to anticipate the subprime crisis experienced, now being on the verge of disaster (10).
Meanwhile, for depositors and investors, this breaking phase will convey risks of considerable loss comparable to the two previous breaking periods (1929 and the years that followed (11), and 1973 and the end of the 1970s). According to our researchers, the ongoing rupture is even more disastrous than the two previous ones due to a disproportionate importance of the financial sphere in contemporary economy. For that matter, LEAP/E2020 comes back on this aspect and describes possible protections further in this 20th issue of the Global Europe Anticipation Bulletin.
US banks quarterly change in domestic loans (in blue) versus domestic deposits (in red) – Source FDIC – Comment: There is a historical disconnection between loans and deposits since 2006, illustrating the dangerous spiral US banks have entered
By summer 2008, it will be possible to distinguish more clearly the lines along which the global financial system will reorganise once the break point has been reached. According to our team, it is a fact that the Europeans (the Eurozone essentially), together with Japan and China, will have to compose with Russia and oil-exporting countries in order to structure a new system.
The evolution will be painful for the US (and for all related operators) as, inevitably, the new system will no longer be organised along their interest as it was the case in the past sixty years. The next US Administration (that will be in charge from January 2009 onward) will have a task high on their agenda: to handle as well as possible this historic change, conveying new economic and financial constraints, in a context of economic recession. Europeans and Asians too will have to keep in mind this aspect if they want to avoid the break from turning into chaos.
(1) Cf. GEAB N°18 in particular for the sequencing of the impact phase.
(2) In exchange of practically any counterpart and anonymously, the approach suggests a panic and a public bail-out of banks. For more detail, see information available on the US Federal Reserve website.
(3) By this trick, the US Federal reserve is only sparing time; indeed it would require a miracle for these assets to recover the value they had until summer 2007. Indeed, the Fed is only granting loans to those banks which must reimburse them in the course of 2008… or follow the example of Northern Rock in the UK, failing and embezzling dozens of billions of the US tax-payer’s US dollars. It is instructive to read on that matter the table of Discount Collateral Margins accepted by the Fed in the framework of its bailout action, where we can see that the Fed accepts to lend at 70 to 80 cents for the dollar assets worth less than half of that on today’s market (cf. GEAB N°19).
(4) Source: Reuters, 12/14/2007
(5) Source: Bloomberg, 12/13/2007
(6) Besides daily announcements of new provisions against subprime- and other CDO-related losses, the FDIC (Federal Deposit Insurance Corporation, which insures member-banks of their federal insurance system deposits for up to USD 100,000) indicated in its November 28 press-release that the net revenue of US banks fell by USD 28.7 billion in the third quarter of 2007.
(7) See here list of US main commercial banks.
(8) On this matter, it is worth reading this very interesting article by Paul Krugman in the International Herald Tribune, 12/14/2007.
(9) … and to the fact that the anonymity granted to banks coming to the Fed in need of refinancing, prevents from knowing which institutions are on the verge of going bankrupt. The Fed is thus trying to prevent a “Northern Rock effect”.
(10) By the way, LEAP/E2020 wishes to indicate that Lehman Brothers, one of US two largest banks with Goldman Sachs, which avoided the subprime debacle by getting rid of them as early as end of 2006, also happens to be the only large financial institution whom a leader of its London branch directly contacted our team in Spring 2006 asking for more details on the fundamentals of our anticipations of the subprime crisis. Indeed we announced, as early as February 2006, the bursting of the US real estate bubble and described its financial effects (which gained us at the time a sulphurous reputation among traditional financial spheres). It is worth noticing that most of the other large US and EU financial institutions which contacted us after only did it from Spring 2007 onward, i.e. once it was too late to react efficiently. This anecdote provides a good illustration of the use of anticipation in a complex system such as our world’s: enabling oneself to act before a problem occurs because once it has occurred, it is usually too late to solve it. As a matter of fact, it can make the difference between a USD 886 million- worth of net benefit in the fourth quarter announced by Lehman Brothers (Source: CNN/Money), and a USD 49 billion provision against the failure of one’s investment funds announced by Citigroup (Source: CNN/Money).
(11) On that matter, it is worth reading the work document n°197 published by the Bank of International Settlements, entitled « One hundred and thirty years of central bank cooperation: a BIS perspective », written by Claudio Borio and Gianni Toniolo, which provides the historic perspective required to evaluate the turmoil ahead of the global financial system.