I’ve mentioned elsewhere that banking is a little bit like trying to time your escape from the Titanic. To be precise, in a “discussion” (argument?) over bank liquidity management here I said this:
‘I’m actually saying banks are inherently illiquid/insolvent, with liquidity issues only being covered up by the existence of a central bank. There is no possibility of a 100% protection against bank runs without the existence of a central bank ready to print like Hell.
“Bank liquidity management” is an oxymoron. They are inherently illiquid institutions because they borrow short to lend long. That’s what banks DO. All they can do is anticipate the next bust and cash up before the wave hits. That’s the skill in banking – getting off the Titanic before anyone else notices the ship is sinking.’
The question whether banks are inherently insolvent is discussed here, here, here and here. Whether you agree with this analysis or not, it’s interesting to consider the practical implications if the analysis is true.
If banks are inherently insolvent, and simply encourage stupid people to get into unsustainable debt to leverage up bank profits in the short run, only to have a banking crisis down the track, what is the ideal strategy from the point of view of the banker (not the economy as a whole)?
I picture it a little bit like you are on the Titanic. You know there are limited lifeboats – not nearly enough for everybody. You also know the ship is doomed, but if too many people find out at once, there will be a stampede and you yourself could get crushed in the chaos and carnage (you don’t want your suit to be creased!). Your primary task in such a delicate, dynamic social environment is to keep all the other guests (or as many as possible) entertained and liquored up for as long as possible so you and your pals can monopolize the lifeboats. You do NOT want anyone to look out the windows. You do NOT want anyone to get access to the charts and maps showing that the Titanic is about to hit treacherous seas.
At the height of the “party” with everyone liquored up and blissfully ignorant of the coming collapse, you quietly slip away under cover of the ship’s soothing muzak, grab the jewels and the lifeboats and slip away.
Same with banking. You keep the game of musical chairs alive for as long as possible, getting everyone else “liquored up” with cheap credit for max. profits, knowing that an insolvency crisis may hit both the banks and the general economy when asset prices reach unsustainable levels. Just before the crisis hits, you quietly exit stage door left, with your bonus, your gold, your Swiss francs and your various residential lifeboats (one in the Caymans, one in Geneva, one in New York, one in London…). If the banks are bailed out by the govt, or the whole economy has to be bailed out by the taxpayer, so be it. Leave that mess to the next guy.
Leaving aside the ethics of The Producers-style heist, the strategy is clear and the game is transparent for those who have the guts, determination and lack of scruples to play it.
Remember this the next time a central banker says the economy is “looking up” or a banker says bad debts are contained or when a stockbroker says now is the time to buy – the whole strategy of every scam artist is to offload his problems onto the next guy. Quietly, discreetly and ever so professionally.
As an investor, your job is to understand the game and keep your eyes glued to the lifeboats. Gold. US bonds (at least they were in the past). Oil. Right now the lifeboats seem like they are being filled…with something.
