What Happens to the Banks if the Federal Reserve Refuses to Inflate?
July 6, 2010
This was asked several days ago.
Say we get a year or two of 20% inflation and the FED wants to save the dollar. To do this it will have to tell congress to get lost. This means significantly higher interest rates on govt bonds.The big banks own a lot of govt bonds. What tools do the FED have for getting the big banks out of the way of a serious price drop in govt bonds?
Can the FED get them out without more inflation? Can it do Swaps, does it have anything left to swap?
I replied:
The big banks own a lot of govt bonds.I need evidence of this.
He responded.
This was just an assumption based on the swaps the Fed all ready did for the bad mortgage debt.
There was a follow-up.
I've also been thinking the same thing. If the Fed allows interest rates to rise to avoid hyperinflation, the mark-to-market losses on the bank's balance sheets will be significant. Gary, the attached link is for the Federal Reserve's H.8 report, which contains information on the Assets and Liabilities for the entire commercial banking system: http://www.federalreserve.gov/releases/h8/current/default.htmYou can see in the second table that for the week ending June, 23rd the US commercial banks have $1,481.8 b in Treasury and Agency Securities on their balance sheets. $995 b is categorized as MBS but the remainder $486 b is categorized as non-MBS and would also include any Treasury securities. I'm assuming that the MBS consists primarily of Fannie Mae and Freddie Mac debt and is essentially back-stopped by the government at this point. Thus, I think the point that Connorculleton makes is valid if there were to be a significant rise in interest rates banks would be facing significant losses on both Treasury holdings and all MBS.
I have asked a question:
What Happens to the Banks if the Federal Reserve Refuses to Inflate?
It's a trick question. The trick is "banks." Which banks? That's the issue.
The original question related to government debt: "The big banks own a lot of govt bonds." I am not convinced this is true. I want evidence. The questioner admitted that he assumed it. Do not assume this.
The second member cited figures for commercial banks in general. Here, I have no doubt. But that was not the first member's question. He specifically said big banks.
The big banks will be protected by the FED. The rest of them -- 98% or them -- must take their chances.
The FED was set up by the big banks to protect the big banks. This is what the FED has always done. Large New York City banks did not fail in the Great Depression. About 9,000 banks did. The same was true in 2008.
I think the worst assets were unloaded in the swaps of 2008 and 2009. The big banks have unloaded these bad assets on the FED at face value. They will move to short-term assets in the mass inflation. Then, when the FED finally decides not to inflate, the big banks will buy sovereign debt of nations that are likely not to default. Japan is one. China is another.
The smaller banks will take the hit. That is of marginal concern of the FED. The large banks will take over the solvent assets of the busted banks.
This is how the game has always been played. Our rulers will not change the rules at this late date.