Moneycontrol » News » Markets » Expert & FII Outlook

Banking system's basics flawed; see more mishaps: Experts

Published on Fri, Oct 03, 2008 at 15:55 | Source : CNBC-TV18

Updated at Wed, Dec 03, 2008 at 18:08

Like this story, share it with millions of investors on M3

Share on Tumblr

Excerpts from Markets Midday on CNBC-TV18 Watch the full show »

RELATED NEWS

ALSO READ

Nifty

BSE | NSE 10/02/12

Are Mutual Funds betting on Nifty?

Michael Spencer , Chief Economist of Deutsche Bank , Asia, feels the bailout may not materially impact economic fundamentals and feels the bailout package would eventually complicate things over time. He added that a good part of the package would be used to inject equity into the banking system. "More bank failures in the US are inevitable," cautions Spencer. "Everybody is expecting more failures in the US. It is almost inevitable given how many thousands of banks that there are, many hundreds are going to fail."

Stephen Pope , Chief Global Market Strategist of Cantor Fitzgerald , said the bailout would give some break to current market volatility but he does not see anything substantial economic recovery in the US until the end of the second quarter. "I think one would probably find the US to be the first to pullout of the slowdown scenario that we have here because they were the first to act in terms of the rate cuts and liquidity provision." He sees something fundamentally wrong within the heart of the banking system and there will be smaller regional banks that can still struggle and probably fail.

Here is a verbatim transcript of the exclusive interview with Stephen Pope and Michael Spencer on CNBC-TV18. Also watch the accompanying video.

Q: What do you see as the scenario going forward, even assuming the House votes for the Bill?

Pope: If the House votes for the bailout package then we would stop work on cleansing the balance sheets of the affected banks. We also look with interest as to how much help will be given to non-US banks for those who have had registration in the US.

Focus will start shifting toward what the impact upon Main Street would be and whether the cure for the Wall Street scenario going is to trickle down and help the actual economy.

Q: Do you sense that the kind of deep cuts we are seeing in the stock markets could at least slowdown once the package is set into motion and the actual buying of the poison bonds starts or do you think that this will be insufficient to re-oil the credit markets?

Pope: It would certainly bring us a bit of a firebreak in the great wave of volatility and the selling pressure that we experienced. There was an element of capitulation last Monday. We had a very tough year and people will look to trade into some rallies until they are confident that things are genuinely improving. Until the gap between the dollar and the central rate diminishes, one will see difficulty within the credit markets overall.

Q: How do you explain the market weakness just a day ahead of the vote we will have tonight?

Spencer: I think what the market is telling us is that it (bailout package) is not going to materially improve the outlook for the financial system and will have very little immediate impact on the economic fundamentals, and the news on that in the last few days continues to get very bad.

Q: Would you say that once the toxic bond buying starts in the US, you could see the LIBOR moving down, or do you think that is insufficient and perhaps more will be needed than the USD 700 billion package?

Spencer: I think it would eventually over time complicate things. The Treasury is likely to be buying these mortgage backed securities and USD 500 billion lops approximately every fortnight. It would sort of take a long time before the market decides that they have got a reasonable basis upon which to price things.

What is more important and linked to that is re-capitalising the banks. A good portion we think of the money that the Treasury is seeking under the legislation, we think would be used to inject equity into the banking system.

If that can be done, either directly or through essentially paying above market prices for mortgage backed securities before banks fail, then the counterparty credit risk may start to recede and LIBOR spreads may come down.

The risk is that the legislation ends up giving the Treasury a fund to protect the system when banks fail, in which case it does nothing to resolve the issue of counterparty credit risk.

Q: So you are expecting more failures in the US itself and what's your take on Europe?

Spencer: Everybody is expecting more failures in the US. It is almost inevitable given how many thousands of banks that there are, many hundreds are going to fail. The issue is whether any more household names are going to fail and that's what the Treasury is trying to avoid. But we have to see whether that house attaches any more provisos to the legislation that would make it unattractive for banks that think they have marked everything fairly to markets but would like to sell them if they could.

If the legislation makes it difficult for them and unpalatable for them to sell assets to the government then it is not really achieving what Secretary Paulson is hoping to achieve. The run on wholesale financed banks and securities companies will probably continue.

The situation in the UK at this point is probably worse than what it is in the US. There is a more fragile banking system there and the government is far behind in terms of trying to come to the rescue of the banking system.

On the continent you have got a lot of very weak banks but fortunately for the system there in for most part already government owned. So the systemic risk is not nearly as bad on continent as it is in UK or the US.

Q: How long and deep do you expect recessionary conditions in the US and indeed in Eurozone as well?

Pope: I think one would probably find the US to be the first to pullout of the slowdown scenario that we have here because they were the first to act in terms of the rate cuts and liquidity provision. However, there is still perceived to be something fundamental wrong within the heart of the banking system and there will be smaller regional banks that can still struggle and probably fail.

Confidence will not pervade into mainstream. People will not start spending. In fact Americans are now amazingly starting to save money where they can which is almost unheard of. So what you would see is that the economy will drag along the bottom probably for at least another six to nine-months. I don't think one is going to see anything rosy out of US in terms of economic recovery until the end of the second quarter.