What Is Going On With The Banks?
Who had "bank failures" on your 2023 Bingo Card? What... no one?
It sure has been quite the interesting ride since COVID has entered into our lives. Rates went to historic lows, and then quickly... WAY TOO QUICKLY... they went up, and up. This was directly the government's response to inflation. Inflation simply means that the cost of goods has gone up. It has quite a negative connotation to it, but it is simply an event that happened. There are a lot of different ways to tackle inflation. There are some countries (who have largely been successful in their pursuit against inflation), who decided to give companies tax incentives to simply raise their employee's wages. If people make more money, they can afford to buy things at a higher price.
However, that is not what the US decided to do. Instead, they took an old school tactic (raising interest rates) to a brand new problem (COVID).
Raising interest rates should, in theory, slow down people from incurring debt. With less money out there from loans, it should slow down the economy. With people buying less things, demand goes down, and prices should follow suit. This is a very Economics 101 take on what should happen. But, as you guessed, the US Economy is more like Advanced Placement Economics, not Econ 101.
And guess what? Raising interest rates have not only not really done much to curb inflation, but it has had other side effects that somehow our top economists, just didn't predict.
One of them has come to light recently with the bank failures. Banks get deposits via checking accounts and savings accounts. They don't just take that money and put it under their mattresses... they try to use it in different ways to make themselves even more money with the money they get. One way they do that is to loan the money to their customers. But, a big way they do it is to invest in other things.
Now, many of the banks thought, "I want to be avoid risk and make sure I get a certain amount of return on my money locked in"... which is funny because by trying to avoid risk, they actually were being VERY risky.
These banks bought bonds from the US government. They pay back a certain amount of money as interest... but here's the thing... if you want to get your money back (and not just get interest from these pieces of paper), you have to sell the bonds to convert it to money. These banks bought these bonds that only paid a tiny amount of interest--- and now the rates have gone up, so the government is selling new bonds that pay way more interest... so these banks can't sell their old bonds to convert it back to money.
Cue clients that want to use their money... before a lot of clients (especially in tech) were doing research, paying payroll, and growing using their lines of credit (because the interest rates used to be low, so it was cheap for them to borrow money.)... now they want to use their cash to do these things. So, they go to the bank to get their cash... and uh oh... the bank has pieces of paper (bonds), but no cash.
Not every bank did this. Some did... and this is why we are likely to continue to see some banks continue to fail. And behind the scenes, tiny banks that are likely to fail are actually getting gobbled up by bigger banks (and that isn't making the news).
This won't crush our banking system. It'll weed out some smaller banks. HOPEFULLY, it will show the government that raising rates at the speed that they did have consequences that they haven't even prepared for. What they do with this knowledge, will affect us all.
This doesn't have to be all doom and gloom. People are still buying, and The Socha Group is still lending. Let's talk today and chat about how all of this impacts your decision to buy/sell your home!
Commentary by Mike Socha, President of The Socha Lending Group
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