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100 Year Crash: What should we do now?

Posted Sep 27th 2008 2:17PM by Peter Cohan
Filed under: Financial Crisis

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In the wake of $800 billion of taxpayer money spent so far to try to fix what ails the financial system, people are concerned and facing different challenges depending on who they are. Different groups of people might consider responding differently.

Here are some thoughts on possible responses:

  • Families need to find safe banks in which to deposit their money. With stocks down at least 13% so far this year, many people are thinking about how they can cut their losses. While some, like Warren Buffett, are using this decline as an investment opportunity, most cannot do that. A typical family needs to make sure that it has sufficient money in a safe place. To that end, families should keep funds in a bank account of less than $100,000 that is insured by the FDIC. That family should also make sure that its bank is profitable, has low loan losses, and no brokered deposits. If 1,000 banks fail in the next year, it would be less stressful to have money in one of the 7,400 banks that are not taken over by the FDIC.
  • Banks need to reduce assets and/or raise capital, find a merger partner, or shut down. If you manage a bank that is solidly profitable with adequate capital and good credit quality, you are in relatively safe territory. If your bank is losing money, has too many risky assets, and inadequate capital, you may be able to sell assets and raise capital. But the markets for both are quite tight. If you can't do that, you should seek a merger partner or let the FDIC take you over.
  • Companies need to conserve their capital. With the CP market drying up, companies that rely on these short-term credit markets are going to need to conserve their capital or come up with new ways to finance their daily operations. They could start demanding that their customers pay before they deliver service, delay paying employees and put off other bills, or shut down operations. They could also draw down the cash from their credit lines, if they have any, and try to get longer terms loans -- or sell stock. But these actions could send the global economy into a downward spiral; and
  • Government needs to restore trust in the financial system. People are losing trust in our leadership. One way to restore that trust is for a respected political leader to patiently and repeatedly explain the problems we face and what will be required to fix them. In addition to communicating, our leaders will need to take action to unfreeze the short-term credit markets, recapitalize the banks, and rebuild our financial system in a way that will assure that such a financial catastrophe does not happen again. The first must be accomplished in days, the second will take years, and the third could take a decade.

For more thoughts on what government can do in the short-, medium- and long-term, keep checking back on this series of 100 Year Crash posts.

Peter Cohan is President of Peter S. Cohan & Associates. He also teaches management at Babson College and edits The Cohan Letter.

Tags: FDIC, safe banks, SafeBanks, short-term credit markets, Short-termCreditMarkets

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Last updated: July 06, 2009: 01:36 AM

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