Central Bankers Man the Battle Stations

 

※※※※※※※※※※※※※※※※※※※※※※※※

※※※※※※※※※※※※※※※※※※※※※※※※

 

Key economists and strategists weigh in on the implications of the bankers' efforts to save the world's financial systems

Market Views October 14, 2008, 12:01AM EST
From Standard & Poor's Equity Research

Weekends are busy for most folks. And then there's the world's central bankers. On Oct. 11-12, policymakers and officials from the U.S., Europe, and Asia burned the midnight oil to finalize a series of historic moves to shore up faltering banking systems worldwide.

Even in the era of the mega-bailout, the numbers remain eye-popping. For example, Germany set aside €500 billion in bank guarantee funds for the recapitalization of banks in distress and potential losses from loans. France said it will guarantee €320 billion of bank debt and set up a fund allowed to spend up to €32,040 billion to recapitalize banks.

What are the implications of the historic rescue effort? BusinessWeek and the S&P MarketScope staff rounded up insights from Wall Street economists and strategists on Oct. 13:

Phillip Finch, UBS Investment Research

We believe that we are moving rapidly toward the end game: full-scale state recap of the banking system to ensure sector solvency and restore market confidence. The British Banking Bailout plan is the first plan that provides direct state capital support—the bailout provides a comprehensive package that removes solvency and interbank concerns. It looks like other countries may follow the British lead, with the U.S. Treasury recently indicating that the $700 billion fund will be used to buy bank equities and insure bank debts. Over the weekend, European leaders agreed on a pledge to guarantee until the end of 2009 bank debt issues with maturities up to five years and to seek permission for governments to buy bank debt stakes. European leaders also have committed to recap what the statement called "systematically" critical banks in distress. Despite prospects of a worsening economic crisis, we believe that the nationalization of parts of the banking system could be viewed as the defining moment that marked the start of the end of the financial crisis. This suggests that we may be close to an inflection for the banking sector, although stock selection continues to remain critical. Poorly capitalized banks remain most vulnerable, while we view universal banks with high capital ratios and strong depository franchises as best placed for survival and market-share gains.

Donald Staszheim, Roth Capital

The U.S., Europe, Japan, and others [are] on the same page. We see no reason for equity investors to wait for the details of the Treasury plan. Washington has no choice but to go largely the same way that Europe and other countries already have—substantial nationalization of the banking sector. While there are lots of problems still to come in finance, these will be worked out. Equities have bottomed, in our view. Policy was more important this time in the bottom than is usual. The next issue is the severity of the hit to the economy and earnings. We see a deep, extended decline, with a slower-growth recovery fueled by less leverage than has been the case over the past two decades. Nevertheless, we believe that equities will remain the best way for most people (even though dispirited) to participate in the secular growth of the U.S./global economies. A winning long-run strategy—strong balance sheets, quality products, good niches, top management, market leadership, and downwind sectors.

Nicholas Smallwood, Daiwa Securities

The German government will establish a €100 billion fund to safeguard German financial institutions that will run through Dec. 31, 2009. About €80 billion of the money, to be raised from the sale of debt, is to be set aside for government to recapitalize German financial institutions through the purchase of preferreds to ordinary shares to hybrid capital, depending on the individual institution. The remaining €20 billion represents a buffer relating to the second strand of the German plan: a guarantee of up to €400 billion of German bank debt for up to 36 months. Any German financial institution or German subsidiary with a foreign parent has recourse to this fund. The German government has also said that the Bundesbank will swiftly take steps to safeguard the liquidity of German money market funds. This liquidity will be made available against the provision of suitable collateral. This is much in the vein of the British bailout, tackling capital, funding, and liquidity. The French have just announced a similar scheme, involving a refinancing entity to run until December 2009 that will provide capital (up to €40 billion) and loan guarantees (up to €320 billion).

Given that these schemes have been announced hot on the heels of [the Oct. 12] summit of European leaders, others are sure to follow suit. Indeed, the Austrians have already said that they may buy stakes in banks or bank assets, while Spain has approved a measure letting the government buy preferreds in financial companies and to guarantee up to €100 billion of new bank debt this year. We expect the Italians to follow through with a similar scheme shortly.

Marc Chandler, Brown Brothers Harriman

With asset markets in better shape today after weekend developments, the U.S. dollar and the yen are weaker after having closed last week at very strong levels. Short-term technical indicators suggest that the euro has unwound much of its overbought condition after the strong Asian open, and so we believe there is scope for further near-term gains against the greenback. Dollar/yen has popped back above 100 as safe-haven buying eases a bit, but the fact that it remains a hair's breadth away from 100 suggests to us that the markets remain concerned despite the European policy initiatives. We think dollar weakness provides an opportunity to buy dollars at better levels and/or to reduce euro exposure.

Elisabeth Weise, Action Economics

It appears that the [British bank recapitalization] plan is the right, and possibly only, medicine for the financial markets at the moment. Combined with significant Bank of England rate cuts, the package tackles the solvency issue of domestic banks by making funds available for equity investment while also offering a debt-issuance guarantee to address short and medium-term funding needs. The plan offers continued short-term financing through the Special Liquidity Scheme, and the BoE is to continue its weekly exceptional three-month Sterling auctions, while the limits on the dollar swap line with the Fed were removed Monday.

The measures put in place by the British government will not be enough to fend off a British recession. Indeed, the British economy is probably already in recession, with growth likely to have contracted in the third quarter, and even to have started contracting in May, according to GDP estimates by think-tank NIESR. And growth will likely contract in the fourth quarter of this year as well. The credit crisis intensification of recent weeks will both prolong and deepen the recession.

Nigel Greenwood, Standard & Poor's Ratings Services

In the longer term, it remains to be seen to what extent the [British] government will expect fundamental restructuring from the British banking sector in return for the current support. The government will appoint representatives to the boards of HBOS, Lloyds TSB, and RBSG for as long as it remains a major shareholder in those banks. It is possible that the government might take a different view from executive management regarding the future shape and strategic direction of those groups, particularly in their non-British businesses.

All of the views expressed in this research report accurately reflect the research analyst's personal views regarding any and all of the subject securities or issuers. No part of analyst compensation was, is or will be, directly or indirectly related to the specific recommendations or views expressed in this research report. Standard & Poor's Regulatory Disclosure

Any advice, analysis, or recommendations contained in articles labeled "Insight from Standard & Poor's" reflect the views of Standard & Poor's, which operates separately from and independently of BusinessWeek Online. It is possible that BWOL may from time to time publish information that is not consistent with advice, analysis, or recommendations that are published by Standard & Poor's. Standard & Poor's and BusinessWeek Online are each units of The McGraw-Hill Companies, Inc.