To say that we are facing an economic crisis seems to be an understatement. During the previous slowdown in 2008, the problems originated in the banking system. After years of excessive bonuses and amoral (and some immoral) behavior, banks were bailed out by the government, costing the taxpayer enormous amounts of money. Bankers were persona non grata and more or less collectively hated by the public. Today, the very same banks that had to be rescued are bound to play an important role in the fight against the Corona crisis. As the CEO of ABN Amro, Kees van Dijkhuizen, puts it: “in 2008, we were part of the problem. Today, we are part of the solution”. Therefore, I will offer some insights in ways the banking system can help the real economy to overcome the largest crisis since the Great Recession. The government is already playing its part, but what can the private sector do?
“Van Dijkhuizen: "In 2008, we were part of the problem. Today, we are part of the solution”"
Central banks worldwide are flushing the markets with unprecedented amounts of liquidity. Therefore, banks have a lot of space to funnel this liquidity to businesses and help them stay afloat. The first way this can be done is by delaying debt servicing payments. Allowing entrepreneurs to repay debt and interest in, say, a year from now, provides them with breathing air to bridge the period during which they have to close their businesses or suffer large parts of their incomes. The banks do not really suffer as the loans remain on the balance sheet and are not (at least not yet) written off.
"Banks have a lot of space to funnel liquidity to businesses and help them stay afloat"
The second way banks can provide liquidity is by providing 0% loans, let’s call them corona loans. These can be provided to businesses suffering from the corona virus and allows them to remain in business. The effects are the same as debt servicing postponement. The difference is that these loans are newly extended to businesses, whereas the former regards existing loans.
As the Corona virus lingers on, chances are that businesses cannot reopen soon and continue to suffer loss of income. In that case, mere postponement of payments will lead to a mounting debt burden that is not easily repaid. Remember, there is no revenue stream as long as businesses are closed. Liquidity provision eases problems in the short run, but debt still needs to be serviced. When government grants are not enough, banks will probably have to lower the rate of interest or even write down on loans in order to keep otherwise healthy businesses afloat. This is the third way banks can help. The government is already preparing to play its part by guaranteeing loans. This effectively collectivizes debt and spreads the pain over society as well as over time. The question is, should banks also play their part? Buffers have increased sizably since the financial crisis of 2008. This would be an opportunity for banks to make a big difference in the struggle to overcome the virus. Banks could partially write off on the corona loans intended to provide liquidity. This would save the taxpayer potentially large amounts of money, but also weaken the stability of the financial system. The question then becomes, who pays what?
"Banks could partially write off on the corona loans"
So far, banks have shown a willingness to help by postponing debt servicing. The next step is to provide free liquidity (remember, central bank policy allows them to do so) in the form of corona loans to businesses, which they are probably willing to do. But the bottleneck lies in the duration of the crisis. Postponing payments provides liquidity in the short run, but leads to mounting debt levels over time. These can be difficult to repay. When that happens, banks are bound to play a crucial role in the fight against the corona virus.