BIDEN BONDS TOO HOT FOR BANK COLLATERAL!

The net of the current banking crisis is that:

1 – Biden’s Spending => 2 – Inflation => 3 – Exploding Yields => 4 – The Instability of Banks’ Core Stabilizing Asset

Since the post WWII Bretton Woods conference, the US Treasury Bonds (specifically the 10Y UST) have been the Risk Free interest rate benchmark. This requires that it be maintained by responsible economic and fiscal policy management. The global Basel Bank Accords built on this in centering US Government Treasuries as a core block in establishing VaR metrics, Capital adequacy and lending ratios.

However, the Biden administration’s $6 – $7.6 TRILLION spending shock:

• • The $1.9T American Rescue Plan projected to realistically involve $3.5T in spending
  • The $740b Inflation Reduction Act
  • The $1.2 Trillion Infrastructure Bill
  • The $280B CHIPS Bill
  • $200B Ukraine Military Support
  • The January $1.7T Omnibus Bill

In addition to last week’s expanded $6.8 TRILLION budget submission, has simply been too much for the banking sector to juggle before the carefully constructed stability metrics “tilted” out of balance!

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WHAT YOU NEED TO KNOW

We are much too early for the Fed to stop fighting Inflation and not increasing rates to above the inflation rate. If we stop now we will only repeat the same mistakes of the 70’s!

Remember: It is only the rate of increase that is falling NOT Inflation as felt by the critically important real disposable income of consumers in a 70% consumption dependent economy.

2023 US TREASURY v 2008 MORTGAGE CRISIS: This is Structural! 

• • Everyone has been ignoring the simple concept that the bonds they acquired at 1% (or less) lose money when interest rates go up (to like 4%) from unfunded government spending.
  • Just as the banks in 2008 were sitting on billions of unrealized losses from the toxic mortgages on their books, the same banks are now sitting on ~ $600 billion of unrealized losses from the newest toxic asset
  • The scope and scale of the use of US Treasury securities by banks and lending institutions world wide as a core “stabilizer” makes this a global structural and systemic problem.  
  • Systemic risk is global as USA sovereign risk reached a new record high.

EU BANKING PYRAMID: Was Readily Combustible 

• • The spiking FRA-OIS says banks don’t trust the assets of other banks.
  • EU Banks and Financial Institutions are under pressure and scrambling to protect their balance sheets from the likes of a Credit Suisse collapse.
  • It works both ways! The crowd loved European banks as yields were moving higher. Looks like the inverse works as well.

BTLF: Effective Conservatorship of Banks 

• • The Federal Reserve’s emergency loan program may inject as much as $2 trillion of funds into the US banking system and ease the liquidity crunch.
  • The Fed’s new BTFP facility is simply QE in another name and form.
  • Expect assets to highly likely grow on the Fed balance sheet which will increase reserves, although technically they are not buying securities.

BUYING TIME: Fed Futilely Trying to Load the “Bazooka”  

• • The BTLF (like the purchase of Bear Sterns by JP Morgan in 2007) may have bought us another 6 months.
  • The serious challenges still in front of the FOMC include:

1. 1. 1. Get the Monthly Rate of Increase Inflation immediately falling below 4% before taking any actions that will weaken pressure on inflation reduction.
      2. Get the Annual Inflation Rate below the critical 5% before further long term damage is done in the form of inflation becoming more “sticky”.

CONCLUSION

THE REAL CRISIS: Crashing Disposable Income 

• • Inflation is still compounding rising prices. Weakness is only in the rate of increases. It’s getting more critical everyday, as we see with 23 consecutive months of shrinking, negative real working wages. 

We still fully expect an overdue recessionary deflationary scare

to arrive in H2 2023.

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2023 US TREASURY v 2008 MORTGAGE CRISIS: This is Structural!

The problem is pretty easy to see if you actually looked! Everyone has been ignoring the simple concept that the bonds they acquired at 1% (or less) lose money when interest rates go up (to like 4%) from unfunded government spending.

Just as the banks in 2008 were sitting on billions of unrealized losses from the toxic mortgages on their books, the same banks are now sitting on ~ $600 billion of unrealized losses (see chart below) from the newest toxic asset – U.S. Treasuries. Everyone knows it. It’s just math.

Everyone has simply been counting on Powell to soon reverse course, but with reported inflation still at 6%, he has been trapped. Suddenly the unrealized bank government bond losses began being realized as the likes of Silicon Valley Bank and Signature Bank had to sell assets to fund operations and unexpected redemptions. Then depositors realized that fact and the classic bank run ensued.

Poof!!! A sudden crisis.

Isn’t that what government bank regulators protect us against? There is that word government again!