No sooner does one financial panic wind down than another one starts, and this week started with another humdinger. We have already had three horsemen appear in the form of China’s slowdown and confused economic and financial policies, the dark side of the collapse in oil and commodity prices, and angst-ridden tales of the coming US recession. Now we have the fourth, and wouldn’t you know it? It’s the banks.
This time, though, it’s not the same as it was in 2007-08 when banks were chronically over-leveraged, under-capitalised and unregulated after more than a decade of an anything-goes culture. Instead it’s complex but in a different way. It’s more about the income statement of the banks than the balance sheet, and it’s not unimportantly about more of the unintended consequences of central bank actions. You know about QE, and you’ve become familiar with ZIRP or Zero Interest Rate Policy. Now let me introduce to the latter’s progeny, NIRP, Negative Interest Rate Policy, who you will get to know shortly.
While we have all been fretting about what Captain Renault in Casablanca would have called “the usual suspects”—China, oil and the United States—bank share prices didn’t reflect what investors in credit markets were worrying about. These markets are where bonds and credit instruments are traded, rather than shares. Here, the instruments relating to many sectors, including energy, commodities but in particular banks, had been on a steadily weakening trend. The bank sector had become risky, if not toxic, as investors expressed concerns about several things. These included the losses imposed on creditors of the Portuguese bank Novo Banco among on-going concerns about the robustness of the new bank resolution regime in Europe; the overall health of a handful of large Italian banks; the situation of other European banks, including two in the UK; and the growing concerns about Deutsche Bank as articulated in the last months of 2015 by its own new CEO, culminating in the announcement a couple of weeks ago of a fourth quarter loss.