Wells Fargo announced this morning that it made a lot of money in the first quarter—”approximately $3 billion.” As I wrote last month when Citi let slip that its January and February looked pretty good, this shouldn’t be all that big a surprise: Federal Reserve liquidity programs and FDIC guarantees have sharply lowered banks’ funding costs, while the demise of nonbank competitors means banks have a lot more pricing power. The inevitable result is that the core source of bank profits, what’s called the net interest margin, may finally be headed up after years of declines. Well, that and a lot of people are refinancing their mortgages. From Wells Fargo’s press release:
“Business momentum in the quarter reflected strength in our traditional banking businesses, strong capital markets activities, and exceptionally strong mortgage banking results — $100 billion in mortgage originations, with a 41 percent increase in the unclosed application pipeline to $100 billion at quarter end, an indication of strong second quarter mortgage originations,” said Chief Financial Officer Howard Atkins.
Does this mean Wells Fargo and other banks are healthy again? No, not at all. They still have balance sheets full of junk. In fact, a huge shoe still to drop for many banks is the potentially dire state of their commercial real estate loans. At Wells Fargo this doesn’t seem like all that big a deal—commercial mortgages and construction loans only make up about 12% of its assets. But at many smaller banks the percentage is much higher (at Utah’s Zions Bancorporation, for example, it’s 33%).
Still, the apparent increase in net interest margin does mean that it’s not at all inconceivable that the country’s banks—as a group; there will surely be slots of exceptions—can eventually earn their way out of their current problems just as they did in the early 1990s. The question is, would that be a good thing?
James Surowiecki addressed this in his New Yorker column a couple weeks ago:
The U.S. financial system is fundamentally unhealthy, too big and volatile for anyone’s good. And right now there’s a great deal of pressure to meaningfully reform it. If Obama’s strategy works, though, and the banks squeak through reasonably intact, that reformist pressure may well dissipate. After all, previous bank meltdowns have produced plenty of rhetoric about the need for better regulation, without much action.
Agreed, that’s a danger. But an important thing to remember was that this financial crisis we find ourselves in wasn’t really the doing of the banks—by which I mean FDIC-insured, reasonably heavily regulated depositary institutions. It was a crisis that began in and utterly devastated the shadow banking system of investment banks, independent mortgage lenders, and securitization. A few banking companies—Citigroup, UBS, JP Morgan Chase—were deeply involved in this shadow banking system through their investment banking arms. But banks, narrowly defined, weren’t really the problem. So letting the banks, narrowly defined, squeak through reasonably intact wouldn’t necessarily be such a horrible result.
The key, really, is reining in the shadow banking system. Since there isn’t much of a functioning shadow banking system at the moment, you’d think that would be politically possible. Most banks (especially the small-to-mid-sized ones that these days carry a lot more clout with Congress than their gigantic brothers and sisters) would love it.