The phrase “too big to fail” may get retired in 2010, but for banks such as Goldman Sachs (GS), Citigroup Inc. (C) and Bank of America (BAC), they may face a new round of punitive legislation to deal with the political fallout.
According to a special report in Money Morning, heavy government intervention in the banking sector combined with low interest rates and ongoing stimulus has made 2009 a profitable year for many banks.
In fact, according to a special report in Money Morning, so-called “bad” banks including Goldman Sachs (GS), Citigroup Inc. (C) and Bank of America (BAC) have turned out to be a better investment than good banks.
To begin with, if the Federal Reserve raises interest rates as is widely expected, it would reduce trading profits, reduce the profitability of borrowing short-term and lending long-term, and reduce the prices of assets such as houses and commercial real estate – putting even more strain on loan portfolios.
But an increase in interest rates is only the first of three areas of concerns for investors.
The length and the level of U.S. unemployment have economists wading through unchartered waters. If unemployment rises above its current 10.5% level and tests a postwar period high of 10.8% set back in 1982, it could signal huge losses as the U.S. consumer-credit system is not “stress-tested” for such high unemployment rates over a prolonged period of time.
And if the losses start piling up, the Fed might very well intercede again with a second bailout. This would be yet another strike against bank stocks since politicians would try to penalize investors for needing taxpayer money twice in two years.
All of this, plus the recent news of record bonuses at Goldman Sachs is creating momentum for punitive legislation against the banks that goes beyond the premiums banks pay to the Federal Deposit Insurance Corp. (FDIC). One idea being considered is a “Tobin tax”. Originally proposed by economist James Tobin after the Nixon administration effectively ended the Bretton-Woods system of tying the U.S. dollar to the gold standard.
The idea behind such legislation, which would fall most heavily on very big conventional banks and trading-oriented investment banks, would be to tax transactions in bonds, stock commodity and foreign exchange markets.
Opinions are divided between those who discern a Tobin tax could protect countries from spillovers of financial crises, and those who claim the tax would constrain the effectiveness of the global economic system and dry up world liquidity.
