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The Fed needs to bail out the real economy — not big banks

The Honorable Sheila C. Bair
 

By Sheila Bair (original source Yahoo Finance)

“Plunging stock markets, bond yields, and oil prices are creating a perfect storm of adverse conditions sure to impose severe damage on the real economy. Nervous markets are particularly focused on corporate credit markets.

Borrowing by non-financial companies has reached historic highs as companies have gorged on cheap credit and easy borrowing terms to goose shareholder returns. The prospect of widespread defaults in the debt-laden corporate sector is the weakest link in our fragile global economy, which is even more highly leveraged than the one which imploded during the 2008 financial crisis. 

Will the banking system hold up? Optimists point to the significantly higher levels of capital that exist today in the banking system as compared to 2008. Yet, the fact that capital is twice as high as it was during those go-go years does not mean it is high enough. Under current rules, banks are still allowed to borrow 94 cents for every dollar of their funding. Even if bank capital is sufficient to keep the system afloat, will the biggest banks have the balance sheet capacity to continue lending? Indeed, to address the needs of the real economy, they will need to expand their balance sheets to take up the slack as corporate bond markets seize up.

Simply keeping the banking system solvent will not be sufficient to meet the economy’s needs, particularly if the banks retrench on credit, withholding loans to all but the most creditworthy, as they did during the financial crisis.” 

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