Are the banks on the brink of another 2008-style chasm?

Northern Rock, Bear Stearns, Countrywide Financial and Alliance & Leicester. Back in late 2007 and early 2008, when they all failed or were bailed out, none of this was systemic. And few observers could have predicted the nightmarish crisis that would strike within the year, taking down giants from Wall Street’s venerable Lehman Brothers to the Royal Bank of Scotland, then the world’s largest bank.

Fifteen years later, after a week in which four banks – Silicon Valley Bank, Signature and First Republic in the US, and Credit Suisse in Europe – faltered and were bailed out in one way or another, it’s no wonder that investors are questioning this We are facing 2007-style problems that could soon evolve into another full-blown 2008-style disaster.

There are good reasons not to hope so. The root causes of the 2008 crisis – a spate of poor quality subprime mortgages being spread via derivatives onto the balance sheets of poorly capitalized banks around the world – do not apply in 2023. Credit quality remains decent. And bank capital is two to three times stronger than it was a decade and a half ago.

However, given the market panic plaguing bank stocks, such assurances felt empty. European banks have fallen an average of 19 percent in 14 days; US banks by 17 percent. On Wednesday, Credit Suisse shares fell 30 percent on the day and only recovered after central bank intervention.

Markets weren’t exactly calm at the end of the week, but had stabilized somewhat. This comes after CS drew on a $54 billion liquidity intervention from the Swiss National Bank while the risk of a run on US banks was offset by deposit guarantees, new Federal Reserve liquidity facilities and a whiplash at Wall Street.

Of course, after the 2008 drama, such interventions should no longer be necessary. The huge package of post-crisis regulatory reforms should ensure that the domino failures of banks on both sides of the Atlantic are not repeated. New minimum levels of equity have been developed, regulatory stress tests introduced and liquidity metrics tightened, dictating that more available funds should be available to meet client withdrawal requests.

This week’s problems in the US were caused explicitly by the fact that these rules were not applied there to banks other than the eight largest. The SVB has been brought to its knees by a combination of poor interest rate risk management and lax supervision, leaving it vulnerable to a rush for deposit withdrawals.

Hours later, Signature, a crypto-focused bank, was hit by a similar phenomenon. First Republic, another regional bank, became a particular target after panicked investors realized it would not benefit from the Federal Reserve’s special funding vehicle introduced after the SVB’s failure because it lacked the collateral needed to run the system to tap into.

As investors in Europe looked for victims, attention turned to Credit Suisse, long considered the region’s weakest major bank. It has little or nothing in common with the SVB – its regulatory oversight is robust, its interest rate risk is hedged. But it was prone to accidents and slow to restructure. A decade or more of poor management and scandals has badly tarnished the group’s reputation — a particularly bad thing when much of your business model relies on convincing billionaires to trust you with their fortunes. At the same time, long-standing shareholders have left the bank to be replaced by unhelpful new ones.

There are even fewer fundamental reasons to distrust the viability of European banks in general. Loan losses are low, capitalization is high and they have survived stress tests.

But that bullish view is still being trumped by bearish nerves – and some logic. Central bank efforts to tame inflation will create recessionary pressures, pushing up bank loan losses and potentially depleting capital buffers. At the same time, unexpected damage may be inflicted on less regulated but similarly important parts of the financial system that have become accustomed to ultra-low interest rates, potentially including pensions, private equity and hedge funds. Last autumn’s Gilts crisis in the UK bond market was a warning sign of such risks.

While the likelihood of another full-blown financial meltdown is remote, our ability to deal with it may be lower. As early as 2008, policymakers were able to lower interest rates, initiate quantitative easing, and flood the banks with bailout capital and liquidity. With government balance sheets far tighter today and interest rates having to rise to fight inflation, the weapons at their disposal are dangerously limited.

patrick.jenkins@ft.com