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Banking crisis ready to rumble

Saturday, August 23, 2008, 1:34 PM


The US Banking System Is in Trouble
(August 22 - John Mauldin)

Yet another crisis confronts us, as we will have
to deal with the aftermath of a rather large number of bank failures
over the next year, which is likely to overwhelm the ability of the
FDIC to insure your bank deposits. Today we look at the banking system,
the FDIC, and Freddie and Fannie. It's not pretty, but as realists we
must know what we are facing.

A few weeks ago when I was in
Maine, I met Chris Whalen. Chris is the managing director of a service
called Institutional Risk Analytics, whose primary business is
analyzing the health of banks and financial institutions.

And
what he sees is not pretty. There is a crisis brewing. He expects 100
banks to fail between now and July of 2009. Most of them will be small,
but there will be a few large banks. The total assets of those banks he
estimates to be $850 billion (not a typo!). Those are the assets the
FDIC is going to have to cover when they take over the banks.

Chris thinks a more conservative number for planning purposes would be
20-25% potential losses, and you hope it does not get there.

If we
take the worst case presented in this excellent summary, 25% of $850
billion is more than $210 billion. After dealing with the IndyMac
failure, the FDIC will have at most $40 billion but more probably $30
billion in the kitty. This means the US Federal Government will be
authorizing another $100 to $150 billion just to keep the FDIC solvent.

My view? This is overly optimistic. I see total bank losses as feeding
off of each other, leading to a total recapitalization need in the
neighborhood of $1 trillion. Couple this to a probable $800 billion in
Fannie and Freddie losses, and we’re talking about an amount that is in
the vicinity of the entire yearly income of the US government. Who will
lend all that money, and under what terms? If the answer is “foreign
central banks,” then we have to ask ourselves why we would willingly
sell a large chunk of our country to foreign agents simply to save a
few banks and a couple of reckless GSEs.

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