A year ago I predicted that losses by US financial institutions would be at least $1 trillion and possibly as high as $2 trillion. At that time the consensus such estimates as being grossly exaggerated as the naïve optimists had in mind about $200 billion of expected subprime mortgage losses. But, as I pointed out then, losses would rapidly mount well beyond subprime mortgages as the US and global economy would spin into a most severe financial crisis and an ugly recession. I then argued that we would then see rising losses on subprime, near prime and prime mortgages; commercial real estate; credit cards, auto loans, student loans; industrial and commercial loans; corporate bonds; sovereign bonds and state and local government bonds; and massive losses on all of the assets (CDOs, CLOs, ABS, and the entire alphabet of credit derivatives) that had securitized such loans. By now writedowns by US banks have already passed the $1 trillion mark (my floor estimate of losses) and now institutions such as the IMF and Goldman Sachs predict losses of over $2 trillion (close to my original expected ceiling for such losses).
But if you think that $2 trillion is already huge, our latest estimates RGE Monitor (available in a paper for our clients) suggest that total losses on loans made by U.S. financial firms and the fall in the market value of the assets they are holding will be at their peak about $3.6 trillion. The U.S. banks and broker dealers are exposed to half of this figure, or $1.8 trillion; the rest is borne by other financial institutions in the US and abroad. The capital backing the banks assets was last fall only $1.4 trillion, leaving the U.S. banking system some $400 billion in the hole, or close to zero even after the government and private sector recapitalization of such banks. Thus, another $1.4 trillion will be needed to brink back the capital of banks to the level they had before the crisis; and such massive additional recapitalization is needed to resolve the credit crunch and restore lending to the private sector. So these figures suggests that the US banking system is effectively insolvent in the aggregate; most of the UK banking system looks insolvent too; and many other banks in continental Europe are also insolvent.
There are four basic approaches to a clean-up of a banking system that is facing a systemic crisis: (see his blog)
UPDATE
New York Times article 12 February, 2009, "Ailing Banks May Require More Aid to Keep Solvent" Mr. Roubini’s numbers may be the highest, but many others share his rising sense of alarm. Simon Johnson, a former chief economist at the International Monetary Fund, estimates that the United States banks have a capital shortage of $500 billion. “In a more severe recession, it will take $1 trillion or so to properly capitalize the banks,” said Mr. Johnson, an economist at the Massachusetts Institute of Technology.
Click graph for The New York Times' breakdown of RGE Monitor's $3.6 trillion
(02/09/2009): Bloomberg - Roubini Expects US to Play Stronger Role in Banks (Click for video or image)
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