Think You’re Getting Ripped Off? Bank on It

Part 1 of 2

Years ago banking used to be local. The strength of a neighborhood bank depended upon its relationship with depositors, most of whom lived in the same town. Banks needed to be nice to depositors because they needed their money and once they got it they were careful with it. Banking was, for lack of a better term, boring.

But over the years banks consolidated, first at the state level, then regionally, then nationally. As banks got bigger they became less dependent on individual investors, which is apparent in the way you get treated today. Big banks don’t care about your deposits because they don’t need them. Today they can borrow money from the government at interest rates under one percent and have, in many ways, grown into uncontrollable entities.

Disaster Started with One Big Bank

The uncontrollable nature of banks became apparent in 2006 when a bank called Washington Mutual, which everyone called WaMu for short, started handing out high-risk mortgages like they were candy. When those mortgages, many of which had been bundled into securities and resold many times, started to go bad, WaMu’s stock collapsed and the bank ran into what’s called a liquidity crisis, which means they ran out of cash, including the money they got from depositors.

When a bank runs into a liquidity crisis the Federal Deposit Insurance Corporation (FDIC) steps in to make sure small depositors can get their money back. But this time what they discovered was that WaMu’s liabilities alone exceeded the FDIC’s entire fund. So the government brokered an emergency sale of their assets to JP Morgan Chase in sort of a “buy this or else” arrangement.

Investment House Follies

Meanwhile, complicating the mortgage securities market were investment houses like Goldman Sachs, which were betting that the mortgage industry was going to collapse. So Goldman shorted mortgage backed securities by buying them and then selling those bad securities to their own customers.

It’s Déjà WaMu All Over Again

One would think big banks and Wall Street learned their lesson in 2008 but, as we’ve pointed out many times over the years, that is not the case. Okay, sure, today banks have to keep more money on hand to cover the risky bets but those risky bets, bundled into securities and sold to unsuspecting customers, goes right along like it did before. This time around the crazy bets were on the oil market as banks handed out loans to oil companies so they in turn could try out expensive and risky oil extraction technologies like fracking and tar sands extraction. That was fine when oil was a hundred dollars a barrel but today it’s under forty dollars—and the price had to recover to get that high. Those risky loans are now starting to go bad, along with the securities they’ve been bundled into.

Back in 2015, regulators and Bank of America were already warning that another catastrophic failure in the banking industry was entirely possible. The report called the situation “perilous” and questioned whether the banking system was truly prepared for another 2008 style meltdown.  (Spoiler alert: They’re not, and we’re not.)

The Risk for You

The government did learn a lesson last time: Taxpayers really hate bailing out big banks. So now the government regulatory agencies, and not just the ones in the United States, are determined that the next time, and there’s always going to be a next time, things are going to be different. They’ve come up with a plan to make sure the ax falls on bank executives, investors and possibly even some of the bank’s depositors and not the taxpayers.

With nearly constant pressure on their flunkies in Congress, big banks have once again succeeded in blurring the lines between banks and investment houses by offering banking services in connection to investment accounts. Millions of Americans think, since they can write checks against the balance, their money is insured by the FDIC, but that may not be the case. Some of that it might be, but anything in non-deposit investments is not covered by FDIC insurance.

The lesson for the rest of us is simple: Don’t trust all your wealth to the untrustworthy. Getting burned once, shame on them. Getting burned twice, shame on you.

Tomorrow: Think you were made to pay for big bank mistakes last time? You ain’t seen nothin’ yet!