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The collapse of Silicon Valley Bank and troubles at Credit Suisse are either “tremors” or “signals of something big”, an expert has said. US based SVB went under last week after suffering losses on government-backed bonds which fell in value due to rising interest rates.
Swiss bank Credit Suisse saw its shares plunge this week and had to turn to the Swiss central bank for emergency credit.
Fears the economy might be on the edge of another “2008-style crisis” caused shares in top European banks to plunge and dragged London’s FTSE 100 down to its lowest level this year.
London’s FTSE 100 dropped by 3.8 percent on Wednesday as nervous investors sold their shares. The 293-point drop was the worst single day for the FTSE since the early days of the Covid pandemic.
Analysts say the share sell-off was fed by investors’ fears banks took added risks to increase investment returns during years of very low interest rates and some may have failed to safeguard themselves against those holdings turning sour as rates rise.
Sambit Bhattacharyya, a Professor of Economics and Head of Economics at the University of Sussex Business School, told Express.co.uk: “Credit Suisse is a moderately large organisation with a revenue base of approximately 16 billion US dollars.
“This is small relative to global banking market annual capitalisation of seven to eight trillion US dollars.
“Simple arithmetic would suggest that the financial system should be able to absorb such losses.
“However, history indicates that knock on effects through derivative contracts are difficult to predict. Therefore, it is indeed a threat but how serious it is, only time will tell.”
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Professor Bhattacharyya said a financial meltdown similar to that seen in 2007-08 is possible, but any prediction at this stage would be a mug’s game.
He added: “We simply do not have enough publicly available data to make a call on derivate exposure of individual banks and how interrelated they are. Indeed, trading in derivate contracts increased many fold since the 2007-08 crisis.”
On his overall assessment of the global financial system, Professor Bhattacharyya said: “These signs are concerning. They could be tremors or they could be signals of something big. We will find out one way or the other over the next few weeks.”
Dr Jon Danielsson, Director of the Systemic Risk Centre in the Department of Finance at the London School of Economics, told Express.co.uk: “Credit Suisse has been badly managed, and suffered a series of large blows other banks have avoided.”
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He added: “While the uncertainty created by SVB might push Credit Suisse into failure, other large banks do not seem to face the same difficulties, so another Lehman moment is unlikely.
“Banks are now intensively scrutinised for vulnerabilities to rising interest rates and it is possible other banks might find themselves in the same predicament as SVB, which then would make a banking crisis more likely, since global uncertainties would rise sharply.
“Credit Suisse’s well documented problems are more severe than those facing other large banks so unless we discover new serious problems, it seems unlikely that other banks in Europe and the UK will follow its fate for the time being.”
Professor Bhattacharyya said British banks are part of the same ecosystem as SVB and so are also exposed.
The economics expert said in the current situation, capital injection is the only policy tool which can be used to improve certainty.
He said: “Relatively high interest rates and the poor state of public finances would continue to be a drag on the extent to which the Bank of England could expand balance sheets and inject capital.”
Meanwhile, the European Central Bank (ECB) carried through with a large interest rate hike on Thursday, brushing aside predictions it might dial back.
The ECB raised rates by half a percentage point, in its continuing bid to fight high inflation. In a statement, the bank called the banking sector in the 20 countries using the euro currency “resilient”, with strong finances.
Sweeping post-Lehman banking reforms enacted by the European Union and UK have forced banks to hold thicker financial cushions against losses.
European banks also observe international rules which raised the amount of ready cash they had to keep on hand to cover deposits. Smaller US banks were exempt from such a rule with SVB being one of them.
But Credit Suisse, the number two Swiss bank, saw its shares plunge as much as 30 percent after its biggest investor, Saudi National Bank, said it could not provide more financial support.
Susannah Streeter Head of Money and Markets at Hargreaves Lansdown, said reining in inflation appears to be the ECB’s top priority, rather than calming the tremors which have shaken the banking sector.
She added: “Hot inflation is still considered to be a big threat to financial stability, which is why for now, the ECB is sticking to the plan.
“The DAX dropped into the red, before recovering a little, and the CAC 40 moved lower, while large banks like Deutsche Bank and BNP Paribas also saw share falls. Credit Suisse is clinging onto positive territory, after it grasped the life buoy of a liquidity line from Swiss National Bank, but it’s losing ground.”
Ms Streeter added that a lower opening on Wall Street has also knocked back sentiment a little after confidence was boosted earlier today by the Swiss action.
She said: “Fears are resurfacing about the stability of First Republic Bank in the US, with shares diving more than 30 percent when trading began, after reports it’s mulling its future options, including a sale.
“Stocks on the S&P 500 are showing signs of recovering after the opening dip, but volatility is likely to remain the order of the day.”
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