Fear Factors

Six banking executives discuss their concerns about the credit crunch and its ever-widening implications.

We don’t place much faith in the collective wisdom of crowds. If large groups are so remarkably intelligent, why do half of New York City’s 2.9 million office workers go outside at 12:30 P.M. every day and wait in line to buy sandwiches?

Round up the right executives, though, and we can crack almost any nut — or at least extract some fresh perspective on the liquidity and credit problems facing financial markets and businesses.

That’s exactly what we did as the subprime crisis and its aftershocks roiled the markets in late summer. We interviewed a sextet of bankers individually about the disruption and what it may portend. The stereotypical banker is guarded to a fault. But when given free rein to comment on fear in the markets, hidden risks to corporations, and whether banks and companies will be better for the crisis, our commentators happily let loose.

What about the state of the financial markets keeps you awake at night?

Douglas S. Roberts: The huge global nature of the financial markets and the balance required to maintain it. The credit crisis is being addressed by the [Federal Reserve], the European Central Bank, and the Bank of Japan. The Bank of England and the Chinese Central Bank are also probably involved. If this coordination falls apart, you could have a situation in which a foreign central bank is tightening and the Fed is loosening. Because of the global nature of the capital markets, the central banks operating in opposite directions could create a situation in which the effectiveness of Fed action would be negated.

Mark Sunshine: What keeps me awake is the failure of the Federal Reserve to recognize that its policy is, in part, responsible for the current market problems. In the late 1980s and 1990s, the FDIC and the Office of the Comptroller of the Currency recognized that subordinated securities in securitizations — collateralized loan obligations/collateralized debt obligations — were more like equity than debt and that banks and thrifts had to treat them that way. Unregulated entities became the primary investors in these securities and have increasingly used them as collateral for loans. The Fed could have used its regulatory power and increased the margin requirements on such securities. That would have forced firms to lend less against CLO/CDO bonds that have equity risks.

Mark Howard: I’m worried that the malaise in the subprime world is unfairly tarnishing the corporate world. That worries me because there are distinctly different credit dynamics in residential real estate than there are in corporate credit. You have seen a flight to quality or to safety that has the potential to unfairly tarnish or adversely affect other borrowers that don’t have any issues.

What are the biggest risks in the U.S. financial markets?

Mark Sunshine: Corporate finance chiefs need to worry about the financial health of their lenders. I believe that most don’t know how to manage the catastrophic effect of a lender failure. A large number of commercial lenders are very poor credits. They syndicate their loans to investors that are also poor credits, and [are therefore] at risk of not being able to continue funding. Several of the large nonbank commercial lenders and investors may not survive the market cycle, and as they fail, they will in turn cause their customers to fail.

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