The Peter Zeihan Podcast Series - Peter Zeihan || The Financial Crisis of 2023?

Episode Date: March 15, 2023

No, we're not headed for another financial crisis...although, to those with more than 250k in one of the three failing banks, it may seem like we are. Silicon Valley Bank is the largest of the three, but it's still only the 16th largest in the nation.Full Newsletter: https://mailchi.mp/zeihan/the-financial-crisis-of-2023

Hey everybody, Peter Zion here, coming to you from Bloomington, Illinois. Sorry, I forgot where I was there for a second. It is the 14th of March Tuesday, and for those of you been following the news, you of course know that the United States is facing a little bit of a banking hiccup right now. Over the course of the last few days, three banks of note, Silvergate, signature, and Silicon Valley have either been closed by regulators or just simply collapsed. And this is something that honestly, I don't think anyone should really overly worry about. The biggest of them, Silicon Valley, is like number 16 in the country.

So this is nothing like the financial crisis of 2007 when all of our big 10 banks were in trouble all at the same time. Now, normally when you have a financial crisis, it's because of a problem with loans. Whenever the business cycle turns, the cost of capital goes up, and loans that may have made sense in the past don't anymore. So in 2007, the issue was subprime. We had based on how you measure the math somewhere between a half a trillion and two and a half trillion dollars of questionable loans in the real estate market. And that meant that touched almost every single bank within the entire system. So when the real estate market turned and we realized that a lot of these people were baristas who had no incomes and had qualified for 100% mortgages on million-dollar homes

and those loans went bad, we had problems across the entire space. Nothing like that is going on this time. We've had a very strong expansion and certainly capital has probably been overly cheap been there is some rot in the system that does need to be worked out. And basically what's going on is the financial system is going through the process of taking out the trash right now. You would expect some banks to go down. That's not necessarily a signal of a broader contagion systemic risk sort of thing. In addition, the United States has something called the FDIC, the Federal Deposit Insurance Corporation,

which is a system by where all banks pay a monthly fee into the system in order to get insurance for their depositors. So as long as your deposit is under a quarter of a million dollars, you are federally guaranteed to get your money back without the federal government having to do anything. That system has kicked in and depositors will be made whole. It makes sense that these three banks are the ones that went under first. They won't be the last probably, although that doesn't mean I'm concerned about something like eking through the entire system like a cancer. She said they're all related to tech. And tech tends to be a capital-intensive. industry and especially when you're talking about newer firms and startup firms and

research firms which are what these banks cater to you're talking about institutions and companies that don't make money today they're hoping to make money next year or the year after the year after that or invest in the next big thing so they tend to be more perspective they don't have to have any income and so when capital costs go up they face problems and so these banks are the ones that are facing the issues so there's nothing about this that is any more than a run-of-the-mill bank failure that matches most of our understandings about macroeconomic trends. I don't want to say it's nothing to worry about, but I'm really not concerned about an

overall national bank contagioner, broad bank run, and I think what the stock markets have done in discounting all things financial is a gross overreaction. So there's that. Now, there are three reasons why this time it is a little bit different. First of all, tech has been on a tear for the last several years and not just because capital has been cheap, but because of COVID. When we all found ourselves living and working at home, we needed better cameras, we needed ringlights, we needed computers, we need to update our phones. And so in the year 2020 and 2021, into a lesser degree in 2022, we were all buying all kinds of tech-related products generating a bit of a boom. Well, once you buy the newest and greatest computer and phone, you probably are going to wait before you get the next

one. And so we were always going to have a little bit of a tech bust independent of what was happening with the overall economy. So that's one. Number two, this is a little atypical for a bank run or a bank crash because normally the problem is on the loan side. It really isn't this time. It's not that there hasn't been a capital crunch, but in the tech startup space, these companies usually don't go to like the small business administration to get a business. loan. They get their capital directly from a venture capitalist. And it's the venture capitalists who are finding themselves with less capital to throw at situations. So they're not as able as they have been to throw money at these small startups. And so the startups have been drawing down on their

cash, which means the problem from the bank point of view hasn't been with the money that they've lent out. They don't lend out very much. It's been with the money that they thought they had. So as deposits have been drawn down, they haven't had enough operating capital to continue normal operations. Now, this is mostly good news because it means the overall exposure to the financial sector, which is normally what happens when you sell loans among banks, just isn't there. But it's a very big problem for the tech sector. And then we get to our third problem, which is how the Biden administration has chosen to deal with it. Now, if you're dealing with a deposit that's under a quarter of a million dollars,

the federal government doesn't have to lift a finger because the FDIC will take care of it. But a lot of these small startups, they put all of their money into individual banks, most notably Silicon Valley Bank. So it was a lot more than a quarter of a million. Now, more than a quarter million is not insured. So what the federal government has done under the Biden administration is step in and say that all depositors will be made whole by the FDIC. What will happen is banks will have to pay a little bit higher all banks into the FDIC. FDIC system in order to ultimately make up for this so that taxpayers don't have to pay for the actual bailout. Now, this does put a hard stop in any risk of a bank run, so it's definitely the right tool for the job there. But what it does is that encourages companies that have done stupid things like this to continue doing them,

because now all of us have to pay through lower bank interests or more difficult loan conditions for a handful of startup companies who had CFO. were just too dumb to realize that there was a limit to the deposit insurance system. And so this has injected a permanent level of stupidity into the financial system that was really not necessary. And by backing all depositors, the federal government, the Biden administration specifically, has chosen to introduce what we call moral hazard into the system at the base level, which, in my opinion, was really not a great idea, although it definitely does put a bit of a backstop on the financial, maybe kind of sort of itty-bitty crisis.

Okay, I'd like to give a little shout out here to Marcy Rocell, who is an economist that I actually just saw on stage, who is fantastic. So if you ever have a chance to see her in person, she is definitely an entertaining show and will constantly give you new things to challenge your assumptions and think in new directions. All right, that's it for me. See you guys next time.