“Many banks are thinking more about maximizing short-term profits than about building a stable base of funding that will protect them when interest rates inevitably rise again.
By Sheila Bair
FORTUNE — During the financial crisis, several large financial institutions heavily relied on short-term borrowings to support their operations. This became a major problem. As credit markets froze, the banks were unable to renew their expiring short-term loans and thus were in danger of failing because they couldn’t borrow enough to operate. This was one of the reasons why the government had to step in with temporary debt guarantees and lending programs.
Recently, the Wall Street Journal ran an interesting piece by writer David Wessel about the “hidden benefits” of the Fed’s quantitative easing. Wessel rightly points out that a benefit of quantitative easing is the ability of corporations to fund themselves cheaply with stable long-term debt.
Regrettably, while non-financial institutions seem to understand the wisdom of funding “long” in the current interest rate environment, financial institutions apparently do not. Instead, they are reducing reliance on long-term debt in favor of deposits, most of which are backed by the FDIC, and short-term loans known as “repos.” Indeed, the percentage of banks’ liabilities funded with long-term debt has declined from a peak of 21.3% in 2009 to 15.7% at the end of the third quarter of 2012. Deposits, meanwhile, have increased from 40.6% to 44.5% during the same time period. Repos have increased as well from 13.6% to 14.1%. As the WSJ’s David Reilly has pointed out, among the biggest U.S. banks, repo financing is now almost as large as long-term debt outstanding.
MORE: The Fed is backing foreign banks into a corner “
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