We Got a Big Response to My Silicon Valley Bank Article

Preface:

News is coming out fast and furious right now so some of what I predicted in the article below is already coming true:

1. The Fed, FDIC and Treasury department made a joint announcement that they will guarantee all uninsured depositors of Silicon Valley Bank and they can have their money Monday morning. However, they will not bail out the bank’s shareholders.

2. The Fed will lend all banks any money they need based on the full value of their Treasury bonds. That prevents more Silicon Valley Bank type failures.

3. This likely indicates a general easing in Fed monetary policy.

4. All this will boost the stock market and it has – Market futures are soaring now with the NASDAQ up 2.5% and the S&P 500 up 2.25%.

But that’s not the end of the story. So, please read my article below because this is a very important event that has longer lasting implications for bonds and stocks.

We got a lot of comments on my recent article on the collapse of Silicon Valley Bank. Most of which were positive. But I think it’s worth responding to the negative comments as it is really important to understand the points I was trying to make.

One of the big complaints is that I didn’t blame Silicon Valley Bank for the collapse. And, frankly, in most bank collapses, the bank IS the problem. Banks make bad loans and go under – and sometimes those loans were made for illegal and corrupt reasons. This wasn’t the issue with Silicon Valley Bank. Their loans were good.

The Problem with the Failure of Silicon Valley Bank Goes Way Beyond One Bank

The problem was with their Treasury bond holdings. In particular, Treasury bonds are no longer ultra safe investments -- far from it. They have lost a lot of value. Anyone who bought bonds in 2020 or 2021, like Silicon Valley Bank did, has seen the same losses.

That’s a big fundamental structural change in our financial system which will negatively affect not just Silicon Valley Bank, but the entire banking industry. In fact, the bank insurance arm of the federal government, the FDIC, estimates that US banks are sitting on $600 BILLION in unrealized losses from what used to be ultra-safe Treasury bonds. For private industry, unlike the government, $600 billion is a lot of money to lose and, if interest rates go up, those losses will grow. For private industry, a billion dollars is not a rounding error.

Plus, it’s not just the entire banking industry that’s affected but also the life insurance/annuity industry, pension funds, and millions of ordinary investors. It affects those same groups in foreign countries because many of their institutions and individuals hold Treasury bonds.

So, this is not a single bank problem in any way, shape or form. The fact that Treasury bonds are no longer ultra safe investments but, instead, can lose a lot of money is a huge change and a problem, not just for the US, but the whole world.

I think people may have missed that point in the article because there is a tendency for people to want to blame a more specific issue, such as specific bank management, than see a much more fundamental structural problem in our financial system. That’s because an individual bank problem is not a problem for you and me. A fundamental problem with US Treasury bonds is a big problem for you and me.

Not that there aren’t significant problems with just the Silicon Valley Bank failure. A big one being that hundreds of younger high tech companies have had their bank accounts frozen at the Bank and will die without that cash – and soon. That will rattle high tech investors for obvious reasons.

So, Why Am I Not Worried?

As I said in the earlier article, the Fed can easily bail out bank depositors. It will not bail out Silicon Valley Bank shareholders – they’re toast and have lost all of their stock value. Silicon Valley bondholders will also take a big hit.

Although the Fed will not bail out the bank – it will bail out the bank’s depositors by simply buying the bank’s Treasury bonds. That’s easy for the Fed to do financially and politically. A depositor bailout will prevent Silicon Valley Bank’s failure from becoming a wider banking failure and a creating a cascading set of business failures.

I Don’t Support Massive Money Printing and Borrowing Because it is Guaranteed to Fail Long Term – Even if I Think it Will Work Short Term

What I didn’t mention in the earlier article, is that I don’t think printing massive amounts of money to bail out banks, the stock market or the economy is a good long term strategy. In fact, it is guaranteed to fail.

Nonetheless, I think the Fed is likely to bail out the bank’s depositors because they want to maintain people’s faith in the safety of the American banking system. And that means their faith in the value of their bubble related stock, bond and real estate investments.

For the same reason, the Fed will not only bail out Silicon Valley Bank depositors, but, if necessary, lots more bank depositors. The reality is that they may not need to do so immediately. If they act soon to rescue Silicon Valley Bank depositors, that could cheer investors and depositors quickly. However, longer-term, banks, pension funds and life insurance companies have all taken bond losses that they likely won’t recover in full. So, the Fed may feel some sort of bailout is needed for the larger financial community.

The Fed has proven it is happy to print increasing amounts of money to help support banks, the financial markets and the economy. I also think the bailouts will work. That’s why I’m not worried about the short term.

Long term is a whole different issue. There are big problems to come. That’s in part because I see the Fed and Congress continuing their financial irresponsibility of massive borrowing and printing. It’s not only the easiest political path, but it’s also because they will consider it financially irresponsible not to do so. They are rightly concerned that if they don’t continue to print and borrow at massive levels to support the financial system, they will kick off a massive financial collapse – the Aftershock.

And it’s not just the government that supports massive money printing and borrowing. The Nobel Prize committee has recently awarded the person who printed a lot of that money, Ben Bernanke, the Nobel Prize in Economics for his economic brilliance.

In fact, I don’t think anyone in government wants to kick off the Aftershock. So, they won’t. The Aftershock will still happen, but only when we lose control of the inflation created by massive money printing which will be forced by massive government borrowing.

It’s a lot like a country in a losing war. Rather than quit halfway and admit defeat, there is a strong tendency to keep fighting until that country loses the war. Same with the economy. We won’t quit fighting the Aftershock until we lose the fight.

The Best and the Brightest on Wall Street and in Academia Need More Proof That We Are Creating a Massive Long Term Problem – But When They Get More Proof, It Will Be Too Late

Another way of looking at it is that people, especially the Best and the Brightest, need more proof. Halfway through the war, it’s not proven you will lose. Once you have lost the war, it is proven that you will lose. So, it is much easier for the Best and the Brightest to see that we will lose the war once we have lost it.

Similarly, we are in the middle of the war against the Aftershock. It’s not yet proven that our recent money printing and likely future money printing will create double digit inflation that pushes interest rates into the double digits.

In fact, it is still quite easy to argue that we can continue to borrow and print as we have in the past. So far, so good right? Or another argument could simply be that printing and borrowing is only a temporary measure to solve a temporary problem. We can think/hope that we will be able to control our borrowing and printing in the future and keep it much lower than today.

I can’t imagine how anybody who has some background in finance or economics could possibly think our past printing and future printing won’t create double digit inflation and double-digit interest rates, but they do. They will only change their minds once they are proven wrong.

Of course, at that point, it is too late to change. But that’s also part of the advantage of waiting until it’s too late. It doesn’t require any judgment or intelligence. So, if you don’t have good judgment or any intelligence, it is a very comfortable way to make decisions.

If you are hoping people on Wall Street or in academia will be smart about the economy and our financial markets, the Aftershock is not the place to look. We can hope that they are smart enough to see the problem and fix it before it blows up, but based on recent past experience, it sure doesn’t look that way.

And, because they didn’t see it earlier, we are far, far beyond any fix other than triggering the Aftershock early.

Yes, the Best and the Brightest will look really dumb if we get double digit inflation and double digit interest rates. No way around it. They will lose all respect and people will actually be quite mad because they have lost their jobs and their savings due to a fairly easy to predict problem.

For the people who are devastated by the Aftershock, the financial world is no longer a bubble fashion investing game or cocktail conversation at Davos for Wall Street billionaires and brilliant academics. It’s a very real problem that impacts them in a very painful way. Also, all those Wall Street billionaires and brilliant Nobel prize winning academics will be part of the group that is devastated by the Aftershock.

Finally, it’s important to emphasize I don’t make my financial or economic analysis based on what I want to happen, as many people seem to. I make my analysis based on what is happening and likely to happen in the future. I don’t want the stock market, bond market, or real estate markets to collapse. But just because of that, I’m not going to spend all my analytical time trying to convince myself, and you, that massive money printing and massive borrowing won’t cause that.

Such work is best left to the Best and the Brightest of academia and Wall Street. They can do a much better job of it than I can. Certainly, that’s what they see as their primary job. Go for it guys!

Closing on an Optimistic Note

I want to close this on an optimistic note. Although I do see problems ahead, I also see those problems creating fertile ground for a much better financial system and a much better world. Just as World War II created big problems and lots of pain, it also created fertile ground for Germany, Italy and Japan to become much wealthier and stable democracies. We have also seen the underdeveloped world de-colonized and become much wealthier, including two of the biggest and poorest countries after the war: China and India.

I see the same for the US and the world after the Aftershock: Big changes and big improvements. Hopefully, I will soon get a chance to write about those changes and improvements. Until then, stay tuned and focus on making hay as long as the sun shines. We may be past noon, but sunset is still a ways away.