weblog/wEssays     home
 

Catalyzing the Great Unraveling   (September 3, 2005)


One of high school chemistry's most visual experiments may provide an analogy to Katrina's effect on the U.S. and world economies. First, salt is dissolved in warm water to the point of saturation. As the water cools, a point is reached where a sharp tap on the beaker causes the salt to instantly crystallize.

The point is not that Katrina's aftermath may prove to be the proximate cause of the great unraveling, but that the global financial situation is so precarious that any shock would have been an equally effective catalyst.

Consider two apparently unrelated items from the August 22 edition of the Wall Street Journal, one on U.S. bank's dwindling reserves to offset future bad loans, and the other on the growing power of an obscure Chinese banking agency which now owns half of the biggest Chinese banks:

In the U.S.:
"Saving less for a rainy day is becoming a popular earnings-enhancement strategy at U.S. banks increasingly stretched for profit growth. More than a dozen major banks took a lower loan-loss provision in the second quarter compared with a year earlier, and the industry's loan-loss reserves as a percentage of total loans and leases are at a 19-year low, according to the Federal Deposit Insurance Corp. Besides some banks helping their profits with gains that don't necessarily reflect underlying success in attracting borrowers and depositors, some analysts are worried the banks are setting themselves up for trouble should the economy stumble."

In China:
"Run by an outspoken central-bank veteran, Xie Ping, Huijin has shoveled $60 billion of new capital into China Construction Bank, Bank of China and Industrial & Commercial Bank of China. The funds have enabled the three major state-owned commercial banks to write off bad debt and improve their attractiveness to foreign strategic investors ahead of planned overseas listings. In the process, Huijin has become by far the biggest single owner of Chinese banking assets. Basic facts about Huijin remain unclear. The company doesn't reveal its staff numbers. Its telephone numbers aren't listed.

Ultimately, it pits the agency against the Communist Party's Central Organization Department, which to this day appoints the heads of China's big banks. The Ministry of Finance, which used to own China's big banks, also has been displeased by Huijin's growing influence."
So let's see if we have this straight. Just as risky interest-only mortgages are increasingly the bread-and-butter of the U.S. banking system, then these same banks are lowering their reserves for bad debts in order to appear profitable. At the same time, total U.S. debt has skyrocketed (see chart above). Can you say "disaster in the making?"

At the same time, a politically byzantine, utterly opaque quasi-governmental agency of the Chinese Central Government has "saved" China's largest banks from insolvency by pumping $60 billion into the biggest three and untold tens of billions more into smaller rivals--all in the hopes of enticing Western capital to flow in and save them the trouble of throwing more money down the bottomless rathole of the Chinese banks' bad debt.

Do these stories paint a picture of a robust, transparent, low-risk global financial system? On the contrary, they reveal a system poised on the precipice of collapse.

* * *

copyright © 2005 Charles Hugh Smith. All rights reserved in all media.

I would be honored if you linked this wEssay to your site, or printed a copy for your own use.

* * * 		 
  weblog/wEssays     home