The virtue, and at the same time the great risk posed by the current global financial system, is that it is strongly interconnected. This interconnection has grown very rapidly from 1990 onward, reaching peaks in the 2008 financial crisis, significantly reducing after this one, but reaching almost similar levels today... In other words, in terms of the interconnection of the global financial system, we are back as we were in 2008... So when a bank gets into trouble, it seems that the system is once again as vulnerable as it was in 2008... the only thing different is that instead of being called Lehman Brothers now the problem is called Silicon Valley Bank.
This is why the US government seems to have taken drastic measures in the last 24 hours to reverse the bad decisions it made on Thursday and Friday of last week. If he hadn't done so (the details of the measures are yet to be seen) a could break out New crisis That in the first instance would have the potential to take much of the global technology sector ahead, and then affect us in the most unexpected ways, setting in motion a whole series of domino events.
To become aware of the seriousness of not saving all the deposits that technology companies and venture capital funds have in the SVB, Let's analyze the evolution of the interconnection of the global financial system. As can be seen in the figures in the graph below, and as we said before, the current figures for the four variables that describe the level of interconnection of the global financial system are at levels similar to those of the last crisis of 2008.
To understand the risks faced by US authorities, let's do a little memory about two last global systemic financial crises since 1990. The first was the Asian financial crisis of 1997, which occurred when all these variables barely reached the figure of 10 Trillion American dollars (that is, less than a third of the current figures)... Well, on July 2, 1997, more precisely in the city of Bangkok, the Thai government decided to float the Thai Bath, the currency of this country, due to the lack of central bank reserves to continue to sustain its value. This led to a sharp devaluation of the Thai Bath, which soon infected all of Asia (Indonesia, South Korea, Philippines, Malaysia). The Asian crisis caused pressure in the United States and Japan, which ended up causing Down Jones to fall by 7.2% in a single day, on October 27, 1997, that is, three months later.
In turn, this crisis caused a drop in the consumption of oil and non-ferrous metals that affected foreign exchange inflows to Russia. This, in the context of a growing crisis of confidence in the Russian economy, generated strong selling pressure in rubles and the consequent effort of the central bank to maintain the value of the currency, which ended up eroding reserves, which, in turn, on August 17, 1998, almost a year later, led to a devaluation of the ruble, the default of domestic debt and the moratorium on external debt.
The origin of the Asian crisis, as we have seen, was the IMF's lack of ability or capacity to save Thailand. Saving countries is no small thing. In general, these are exercises that consume a large amount of resources, in lax governance contexts, in other words, where it is very difficult to get countries to implement the necessary measures to contain public spending, make the economy more efficient, reduce corruption, etc. This happens because these are unpopular measures that governments are reluctant to implement because they erode their electoral bases. Therefore, when these events occur, between the time it takes to negotiate the aid packages, their limitations, and the mutual distrust between the negotiating teams of the IMF and the economic ministries of the affected countries, can rarely be contained in their full magnitude. The good thing is that these problems usually affect a series of more peripheral economies, whose systemic effect is relatively limited.
What happened in 2008, as it is more recent, may be better remembered. As it is a long collection of events, I leave a summary at the end of this article. I recommend that you read it because it is very revealing of the domino effect of banking interconnections, since no one is very aware of what assets connect each bank, but that the connections exist, there is the proof. In essence, starting on September 15, 2008, with the bankruptcy of Lehman Brothers and the refusal of the United States Congress to rescue it on September 29 of that same year, a long chain of events began, ending with the near fall of the entire economies of Greece, Portugal, Ireland, Spain and Italy between November 2009 and April 2010... Spain's GDP experienced a significant drop during the 2008 financial crisis and the subsequent recession, which lasted from 2009 to mid-2013. During this period, Spanish GDP declined steadily, registering a negative growth rate for several consecutive quarters. It was only in the second half of 2013 that the Spanish economy began to show signs of recovery, with positive GDP growth. Since then, GDP growth has been erratic, but generally positive. Therefore, it could be said that Spain's GDP did not grow for about 4 years, from 2009 to mid-2013, as a result of the financial crisis and the recession that affected the Spanish economy. As can be seen from the above and as can be seen in the summary below, the systemic crises that have their origin in some mess in the American economy are quite another thing than the debt crises of emerging countries. And the SVB crisis is the closest thing to a mismanaged mess, first by supervisory bodies, which should have been more on top of the events of the previous months, second by the bank's managers and their advisors (including none other than Goldman Sachs), and then by American government bodies, starting with the United States Treasury. To understand the problem that could arise today when the markets open, unless the US government is extremely clear about how and when a significant part of the SVB's deposits will be accessible, What can happen is that a large part of the entire fabric of American technology companies will have trouble paying the salaries of their employees and the bills of their suppliers.It will follow that a large part of all the funding rounds that have been negotiated during the last 6 months and that were going to close in these coming days and weeks, will not be able to close, and consequently many Silicon Valley companies will have to close, valuations will fall even lower than they have already fallen in the last year, and the entire sector would face a crisis whose depth and extent over time is difficult to predict. The stock market would also suffer, first and in particular the Nasdaq, which could start to fall from 11830 points at the close of Friday the 10th to 9000 points in January 2020, or even the 7500-7700 pre-pandemic points in 2019. From here on, everything becomes more difficult to predict, since it is very difficult to see how these movements could affect the rest of the stock indices and the economy in general. A bank run over other banks seems less likely, since that is what the SVB was very peculiar about, since its customer base was so concentrated among startups, big technology companies, millionaire entrepreneurs and VCs... which constitutes a customer base in which 87% had more than 250K US$ deposited there, which is the limit of the bank guarantee of the American system. Hence, everyone rushed to pick them up last Thursday and Friday... because the warranty didn't cover the vast majority. This is not the case of the numerous other banks that may have made the same or similar mistake of the SVB of investing their clients' deposits in long-term mortgages and low interest rates (whose value decreases in the market as short interest rates rise). As you can see, better than trying to throw away the first piece of dominoes, it would be to remove 4 or 5 intermediate pieces and stop the effect. For this reason, the United States Treasury has announced that it will implement a rescue plan that will return liquidity to the technology industry and prevent contagion to whoever knows who.
Detail of the evolution of the subprime crisis since August 9, 2007
- August 9, 2007: The French Bank BNP Paribas temporarily suspended the activity of three of its funds that had exposure to the United States subprime mortgage market.
- September 15, 2008: The bankruptcy of Lehman Brothers, one of the largest investment banks in the United States, had a major impact on financial markets. The New York Stock Exchange fell 4.4% that day.
- September 29, 2008: The United States Congress rejected a financial rescue plan proposed by the government, causing a new fall in markets.
- October 3, 2008: The President of the United States, George W. Bush, signed the Emergency Economic Stabilization Act, which allowed the Treasury to buy toxic financial assets from banks.
- October 6, 2008: The Tokyo Stock Exchange fell 4.3%, and major European stock markets fell between 4% and 6%.
- October 7, 2008: The New York Stock Exchange fell 5%, its biggest drop since September 11, 2001.
- October 10, 2008: The leaders of the G7 countries met in Washington D.C. to coordinate measures to stabilize financial markets.
- October 13, 2008: The New York Stock Exchange fell 7.7%, its biggest single-day drop since 1987.
- October 15, 2008: The European Central Bank announced a reduction of 50 basis points in its interest rate, to 3.75%.
- October 24, 2008: The British government nationalized the Bradford & Bingley mortgage bank.2
- October 8, 2008: The European Central Bank announced a reduction of 50 basis points in its interest rate, to 3.25%.
- November 4, 2008: Barack Obama was elected President of the United States.
- November 19, 2008: The United States Federal Reserve announced a reduction in its reference interest rate to a target range of between 0% and 0.25%.
- November 30, 2008: Iceland declared bankruptcy, after its main banks collapsed due to the financial crisis.
- December 5, 2008: The president-elect of the United States, Barack Obama, announced an economic stimulus plan of 800 billion dollars to boost the country's economy.
- December 18, 2008: The Federal Reserve announced a program to purchase government-backed mortgage debt totaling $500 billion.
- December 29, 2008: The U.S. government announced that it would provide $17.4 billion in additional financial aid to the carmaker General Motors.
- January 16, 2009: The New York Stock Exchange fell 4.1% after disappointing business results were released and the U.S. government announced that it was considering nationalizing some of the country's banks.
- February 2, 2009: The United States government presented a 2 trillion dollar rescue plan for the country's banks.
- February 17, 2009: The UK government announced a second bank rescue plan for a total of 200 billion pounds sterling.
- March 1, 2009: The President of the United States, Barack Obama, signed the American Recovery and Reinvestment Act, which allocated 787 billion dollars to infrastructure projects and other programs to stimulate the country's economy.
- March 9, 2009: The New York Stock Exchange fell 4.2% after the European Central Bank failed to cut interest rates as much as expected.
- March 27, 2009: The U.S. government announced a $500 billion rescue plan for the country's banks.
- April 2, 2009: The European Central Bank reduced its benchmark interest rate to 1.25%.
- April 28, 2009: The New York Stock Exchange fell 2.6% after U.S. President Barack Obama announced plans to regulate the country's financial markets.
- May 7, 2009: The European Central Bank lowered its benchmark interest rate to 1%.
- June 4, 2009: The New York Stock Exchange fell 2.2% after worse-than-expected economic data were released.
- June 24, 2009: The European Central Bank reduced its benchmark interest rate to 0.25%.
- November 24, 2009: Dubai World, Dubai's state investment firm, announces that it is in financial trouble and is seeking a moratorium on the payment of its debts. This leads to a sharp decline in stock markets around the world, especially in Asia and Europe.
- November 25, 2009: The International Monetary Fund (IMF) announces a $3 billion financial aid package for Dubai. Stock markets partially recover after this news.
- November 26, 2009: The United States GDP growth figures for the third quarter of 2009 are published, which are revised upwards from 3.5% to 2.8%. Stock markets are concerned about the lower growth rate.
- November 27, 2009: The Greek government announces a fiscal austerity plan to reduce the country's deficit. Stock markets are concerned about Greece's fiscal situation and the possibility that the country may not be able to pay its debt.
- November 30, 2009: The Irish government announces a rescue plan for the country's banking sector, which is in serious financial difficulties due to the financial crisis. Stock markets are concerned about Ireland's banking situation.
- December 2, 2009: The European Commission presents a proposal to strengthen financial supervision in the European Union (EU), in response to the financial crisis. The proposal includes the creation of a European Systemic Risk Council and three new supervisory authorities. Stock markets are wary of this proposal.
- December 3, 2009: The United States Federal Reserve announces that it will keep interest rates at levels close to zero to stimulate the economy. Stock markets are reacting positively to this news.
- December 4, 2009: The unemployment rate in the United States is 10%, its highest level in 26 years. Stock markets are reacting negatively to this news.
- December 7, 2009: The Greek government announces a privatization plan to reduce its fiscal deficit. Stock markets are wary of this news.
- December 9, 2009: Standard & Poor's downgrades Greece's credit rating due to its fiscal deficit and lack of progress in implementing the austerity plan. Stock markets are concerned about Greece's fiscal situation.
- December 10, 2009: the European Central Bank (ECB) announced that it would keep interest rates at 1%, its lowest level since the single European currency began to circulate in 1999.
- December 11, 2009: The US Treasury announced that it had disposed of its last stake in Citigroup, which meant that the government had recovered all of the $45 billion it had invested in the financial institution.
- December 23, 2009: the U.S. Treasury announced that it had extended the Troubled Asset Relief Program (TARP) until October 2010, although with stricter restrictions for entities wishing to participate in the program.
- December 29, 2009: The Greek government announced that its fiscal deficit was 12.7% of GDP, well above the 3% limit imposed by the European Union. This revelation raised concern in financial markets about the health of the Greek economy and the stability of the euro.
- In January 2010: there were strong protests in Greece against the austerity measures that the government was taking to try to reduce the fiscal deficit.
- In April 2010: Greece called for a financial rescue from the European Union and the International Monetary Fund (IMF), after investors lost confidence in their ability to repay their debt. The rescue agreement amounted to 110 billion euros. The contagion of the crisis spread to other European countries with high levels of debt, such as Spain, Portugal and Ireland. These countries also had to request financial rescues from the European Union and the IMF. The sovereign debt crisis in Europe remained a major problem for several years, with serious consequences for the economy and employment in several countries.
