Financial Regulatory Forum

U.S. banks to be first to shed government support – economists poll

By Reuters Staff
September 11, 2009

By Nigel Davies
LONDON, Sept 11 (Reuters) – U.S. banks are expected to be free of bailout obligations like those owed to the Troubled Asset Relief Program within two years, a Reuters poll of economists found on Friday, but European lenders were seen taking longer to cut loose from public support.

A drive by U.S. banks to pay back bailout funds such as those owed to the government’s $700 billion TARP have gathered pace thanks to surging profits in the last quarter and analysts say most are well on course to clear their debts.

In a survey of over 80 economists from the United States and Europe, a year on from the demise of Lehman Brothers which helped plunge the world into recession, most economists said it would be the U.S. banks to pay their debts off first.

Leading investment banks in the U.S., including Citi and Bank of America, were forced to seek government help as a funding crisis tore into the sector. Others like Goldman Sachs have already paid off their obligations.

But in the UK, Lloyds TSB and RBS were part-nationalised. Economists said European banks in general would take longer than their U.S. counterparts to move away from such heavy public aid, the poll found.

“There has been quite a big consolidation in the U.S. banking industry and the measures were pretty bold,” said Juergen Michels at Citi of the numerous measures put in place by the authorities to help banks and companies.

“So there should be more improvement as they have done more of the work to get back in a stable situation than their European counterparts.”

Indeed the banking landscape on Wall Street has changed dramatically, with Bear Stearns and Lehman wiped off the map and Merrill Lynch swallowed up by Bank of America.

The Fed has also introduced a raft of other support measures to help banks and the wider economy out of a deep hole, including slashing interest rates to almost zero, and the purchase program of $300 billion of Treasuries.

In February Congress restricted bonuses and other forms of pay for top managers at banks, which is also seen as a major stimulus for banks to return public funds as they are eager to retain and attract top banking talent.

Yet several economists said it could take longer than a few years for U.S. banks to become fully independent of public support after their lax lending practices during boom times led to the worst financial crisis since the stock market crash of 1929.

“These things are enormously complicated,” said Philip Shaw at Investec. “In the U.S. you’ve got the likes of AIG, Freddie Mac and Fannie Mae and I can’t imagine those issues are resolved in two years.”

All three institutions were deemed ‘too big to fail’ by the Federal Reserve, forming the bedrock as they do of the U.S. mortgage market and a large slice of the insurance market.

The poll showed 61 of 80 thinking governments and central banks had done enough in the past year to prevent another bank collapse of similar magnitude as Lehman happening in the next few years.

RECOVERY IN HAND
Most were also largely optimistic about the chances of an economic recovery taking hold partly due to the bailouts and massive stimulus packages enacted in the past year. The survey showed only a 30 percent chance of a ‘double-dip’ recession in the global economy.

Economists were divided as to the effect a host of proposed market reforms and regulations would have on economies.

Forty-four of 81 economists said planned regulations would curb long-term growth prospects, while 37 said they would not.

Finance ministers from the Group of 20 nations broadly agreed last weekend that banks ought to hold more capital to act as a cushion against the sort of astronomical losses that led to bank failures and bailouts.

Reform of central banks’ monetary policy may also be seen, which have in Europe at least focused on controlling inflation.

Many economists have been critical of the role of central banks in allowing asset prices to race away under low interest rates only for a bubble to burst years later, as happened with the U.S. housing market.

The bulk of economists, 50 of 81, said the overall goal of monetary policy should be revised to include preventing future crises.

That left 31 who said there should be no change, with
many seeing a clear distinction between monetary policy from regulations designed to ward off crises.

Economists gave the Federal Reserve a score of 8 out of 10 for its response to the crisis since Lehman collapsed, largely saying it reacted more swiftly and forcefully to the crisis than other central banks.

The Bank of England and the European Central Bank scored 7 out of 10. Many economists said both took too long to introduce measures to combat the crisis. The Bank of Japan received a mark of 6 out of 10 with many saying their work had been limited.

Some said the reputation of the Fed was tarnished by letting Lehman collapse and the BoE’s when mortgage lender Northern Rock fell apart.

“The BoE’s performance is stained by the first bank run in more than a century — something simply unthinkable in a modern advanced economy. The Fed shows a mixed bag: good on macroeconomic actions, very weak on specific, company-specific bailouts,” said Adolfo Laurenti at Mesirow Financial.

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