Wall Street Economist: Greece Ripple Effects Could Create Another US Financial Crisis


The turmoil in Greece continues to rear its ugly head. The world watches and investors hold their collective breath to see how all of this will shake out as sectors like banking are still on the cusp of a recovery. But can the financial sector withstand another blow? I asked Lance Roberts CEO and Chief Economist for Streettalk Advisers that very question.

LL: Everyone is talking about the ripple effects of Greece on US banks. What is their greatest exposure? Credit-Default Swaps?

LR: Credit derivatives are some of the biggest exposure that US banks have to Greek debt but it is really more important than that. The financial community is not shielded from or prepared for, another credit crisis. It is not so much the exposure to a single issue or country that matters here — it is the effect that impacts the financial community as a whole when credit prices collapse due to a “run on the bank” type scenario.

The U.S. banks have massive exposure to Guarantees (Credit Default Swaps) in the PIG space. Therefore, if one actually defaults, U.S. banks will take a bath on their CDS positions. Since CDS is essentially insurance on default, losses could be extremely large.

LL: When you say US banks could take a bath, how much are you talking?

LR: The fall out will be most likely in the hundreds of billions.

LL: Let's talk about the ripple effects of this crisis infecting Europe. French banks have the most exposure. What kind of exposure do US banks have when it comes to France?

LR: American banks have massive exposure to the Portugal, Ireland and Greece credit problems. Germany and France have direct debt exposure (so you have a good idea while they are interested in trying to work something out with Greece). The UK, France and Germany have the biggest exposure to Ireland’s problems while Spain, France and Germany have the biggest exposure to Portugal debt.

US Banks have direct exposure to French banks though CDS exposure as well as direct holdings. There is a lot of bond debt issued through system and held by US banks from Societe General, Bank National de Paris and Credit Agricole. Any failure of French bank due to a default by Greece could have wide ranging issues.

LL: Could the Greece ripple effects on US banks ignite another financial crisis?

LR: Absolutely

LL: Is the U.S. Financial system healthy enough to withstand another crisis?

LR: We have to clarify this answer. Small and regional banks are in better shape but they were not the culprits of the last financial crisis. The major institutions, however, are a different story.

They are really not much better off now than before the credit crisis because the banks failed to use the support of the Federal Government to clean up their operations. They are still running with heavy leverage ratios, reserves are higher but net interest income is falling. Banks are literally being choked off by the lack of yield on assets which has pushed them to chase yield in risky assets.

The housing/fraudclosure mess is also increasing operating costs dramatically and the failure to restructure the large banks after the

2008 crisis to limit the systemic fallout from TBTF means that any unanticipated event, like the past credit crisis which they believed would never happen (even though we wrote about it beginning in 2007), will lead to another ripple effect through the financial system.

The largest US banks are virtually insolvent and they are going to have to be restructured at some point, either by choice or by force, or we are doomed to keep repeating this cycle until the assets and losses on their books are fully recognized.

LL: Could this spark a recession or depression?

LR: First, we have STATISTICALLY left a recession. However, in reality 70% of Americans believe, and are acting like, we are still in one. However, in reality, we would already be in another recession if the Fed had not jumped in with QE2, see chart below with explanation. We are now headed to a recession by the beginning of 2012, in the absence of some form of QE 3, and a default by Greece would most likely on exacerbate the situation.

LL:Bank of America has the largest exposure to Greece. What should shareholders be worried about here?

LR:The biggest problem that Greece poses today to the domestic finance community is that if Greece defaults this will cause a “panic” in the credit markets and investors will begin dumping bonds indiscriminately forcing a collapse in prices and impacting already vastly weak bank balance sheets. It is not the direct issue of Greece that is a problem — it is the psychological impact on prices due to panic selling that is the issue.

Shares of Bank of America have already been under fire for quite some time as their problems are much deeper than just exposure to Greece.

LL: How much of a hit could US bank stocks suffer? They have already fallen hard in the last four months because of the European fiscal problems.

LR: Banks haven’t been falling in price due to just European fiscal problems. Regulatory policy changes, mortgage foreclosure issues, toxic asset exposure and a weak consumer banking and credit business are weighing on profitability and outlook.

LL: What are you looking at when it comes to Greece. Is there a thread of the story not being told? What is being underestimated if anything?

LR: What is really being underestimated in my opinion is the rolling fallout of continued attempts to bail Greece out rather than working on a solution to effectively take them through a default process.

You have broke countries lending money to broke countries hoping that they will pay back the debt. They can’t and they won’t. We keep pursuing policies of supporting poor creditors rather than resolving the issue. It is only a function of time until this works out badly.

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A Senior Talent Producer at CNBC, and author of "Thriving in the New Economy:Lessons from Today's Top Business Minds."