Thursday, September 25, 2008

DeLong: Bank finance 101 - in Salon

A great article. I more or less know this stuff, but DeLong's easy going exposition still taught me new things - like that banks lend long and borrow sort. Essential reading (emphases mine) ...
Why Ben and Hank are right, mostly | Salon

... In large part because the market thinks banks and other financial institutions are way risky, they are. There is a self-fulfilling prophecy element here. No bank or other financial institution can survive for more than a month or two when market risk is at current levels. Banks borrow a lot of money. They lend out a lot of money at a slightly higher interest rate. They make their profits on volume -- on the amount of money borrowed and loaned. Most of their loans are long-term: Their terms don't change when market conditions change. Most of their borrowings are short-term: Their terms do change when market conditions change. The high level of market risk and its rapid run-up from normal levels only a year ago last August means death to all banks, and near-banks, and shadow-banks, and banklike institutions -- unless the economic fever is broken and is broken soon....

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