Do Zombie Banks Walk Among Us?

Investors should not get too enthusiastic about the rally in Citigroup shares.  Until details are released on their earnings call in April, the jury remains out on the significance of the corporation’s booking of deferred tax assets — this may well suggest that asset sales are on the way, rather than a return to healthy operating earning or even a proof of solvency. 

What is apparent, is that wounded banks are a drag on the economy.  For example, over the last few quarters, it has been apparent that Citigroup has been cutting back on its lending in certain areas.    For example, checking the Citimortgage website much of last year showed jumbo mortgage rates way off the market (30 year mortgages somewhere in the neighborhood of 8% with 8 points if memory serves).  Checking jumbo rates the other day led to this message:


I called Citimortgage and was told that they only make loans within conforming limits.  So Citi – previously one of the largest mortgage lenders in the country is apparently out of the jumbo loan game completely.  

Exiting  this business may be a prudent strategy from a balance sheet management perspective.  However, one should ask whether this makes sense from the standpoint of the taxpayer who is now supporting this institution.  In a  “TARP Progress Report” publicly issued on Feb 3rd,  Citi claimed to have put $25.7 billion of TARP funds toward “U.S. residential mortgage activities,” but much of these are simply purchases in the secondary market, not a direct extension of new credit.   Although the report outlines $8.2 billion extended to new jumbo mortgages in the 4th quarter, they no longer appear to make these publicly available; perhaps the availability is restricted to their private bank clients, or perhaps they simply no longer have the ability to commit in this area.

The issue is not how Citi is using its TARP money, but rather to highlight the inadequacy of the current government response.   At year end, according to FDIC data, Citi held $296 billion in domestic deposits.  According to the data I could find, that works out to about 3% to 3.5% of all U.S. domestic deposits — a big number for a single institution.  More importantly, that’s also a lot of deposits to be held up at an institution with constrained lending capacity.   That those funds continue to be held there is a result of government guarantees (ultimately a taxpayer liability) and TARP funds.  So, for all that backing, we get a place to hold deposits, but not a place that can make a jumbo loan.

Bank of America, and even Citi have stated they need no additional capital injections from the government.   Let’s hope that they’re in a position to thrive, not merely survive.   Unfortunately, this will require more and better leadership from Washington.  To date, government assistance has come with inappropriate interference (unreasonable compensation rules, restrictions on hiring H1B visa holders, browbeating on everyday expenditures, etc).  It’s certainly reasonable for bank executives to want to be rid of the government as soon as possible.  If we’re going to return the banks to the discipline of the markets, that’s fine — without extensive government guarantees, the winners and losers will be sorted out quick enough and the tough decisions will get made. 

What I fear are halfway measures, where government guarantees are left in place, deposits sit idly in institutions which can’t lend, our policymakers congratulate themselves for “saving” the system, and a borrower can’t get a jumbo mortgage.

Disclosure:  the author and his firm’s clients may hold positions in securities of Citigroup, Bank of America, and other financial institutions.

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One Response to “Do Zombie Banks Walk Among Us?”

  1. Watch The Zombie Bank Lifeline « (in)efficient frontiers Says:

    […] institutions to raise capital.   This means that we will continue on the path of creating Zombie Banks, the “living dead” of the financial world, not allowed to die, but to0 weak to lend […]

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