Shadow Banking Makes a Comeback By MIKE WHITNEYSubmitted by bobbyw24 on Sun, 07/25/2010 - 18:53
Credit conditions are improving for speculators and bubblemakers, but they continue to worsen for households, consumers and small businesses. An article in the Wall Street Journal confirms that the Fed's efforts to revive the so-called shadow banking system is showing signs of progress. Financial intermediaries have been taking advantage of low rates and easy terms to fund corporate bonds, stocks and mortgage-backed securities. Thus, the reflating of high-risk financial assets has resumed, thanks to the Fed's crisis-engendering monetary policy and extraordinary rescue operations.
Here's an excerpt from the Wall Street Journal:
"A new quarterly survey of lending by the Federal Reserve found that hedge funds and private-equity funds are getting better terms from lenders and that big banks have loosened lending standards generally in recent months. The survey, called the Senior Credit Officer Opinion Survey, focuses on wholesale credit markets, which the Fed said functioned better over the past quarter." ("Survey shows credit flows more freely", Sudeep Reddy, Wall Street Journal)
In contrast, bank lending and consumer loans continue to shrink at a rate of nearly 5 per cent per year. According to economist John Makin, there was a "sharp drop in credit growth, to a negative 9.7 per cent annual rate over the three months ending in May." Bottom line; the real economy is being strangled while unregulated shadow banks are re-leveraging their portfolios and skimming profits. Here's more from the WSJ:
"Two-thirds of dealers said hedge funds in particular pushed harder for better rates and looser nonprice terms, and they said some of the funds got better deals as a result....(while) The funding market for key consumer loans remained under stress, with a quarter of dealers reporting that liquidity and functioning in the market had deteriorated in recent months." ("Survey shows credit flows more freely", Sudeep Reddy, Wall Street Journal)
As the policymaking arm of the nation's biggest banks, the Fed's job is to enhance the profit-generating activities of its constituents. That's why Fed chair Ben Bernanke has worked tirelessly to restore the crisis-prone shadow banking system. As inequality grows and the depression deepens for working people, securitization and derivatives offer a viable way to increase earnings and drive up shares for financial institutions. The banks continue to post record profits even while the underlying economy is gripped by stagnation.
Central bank monetary policy is largely responsible for the worst financial crisis since the Great Depression. Low interest rates and an unwillingness to reign in over-leveraged banks and non-banks triggered a run on the shadow system that left many depository institutions insolvent. Eventually, the Fed was able to stop the bleeding by providing trillions of dollars in emergency relief and by issuing blanket government guarantees on complex bonds and securities that are currently worth roughly half of their original value. The Fed is now reconstructing this same system without any meaningful changes. The upward transfer of wealth continues as before.
The Federal Reserve Bank of New York's own report confirms that securitization and massive leveraging contributes to systemic instability. Here's an excerpt from the FRBNY's "The Shadow Banking System: Implications for Financial Regulation":
"The current financial crisis has highlighted the growing importance of the “shadow banking system,” which grew out of the securitization of assets and the integration of banking with capital market developments. This trend has been most pronounced in the United States, but it has had a profound influence on the global financial system.....Securitization was intended as a way to transfer credit risk to those better able to absorb losses, but instead it increased the fragility of the entire financial system by allowing banks and other intermediaries to “leverage up” by buying one another’s securities." ("The Shadow Banking System: Implications for Financial Regulation", Tobias Adrian and Hyun Song Shin, Federal Reserve Bank of New York)
The former President of FRBNY, William Dudley, made similar comments in a recent speech. He said, "This crisis was caused by the rapid growth of the so-called shadow banking system over the past few decades and its remarkable collapse over the past two years.”