The coming banking collapse will further exacerbate the financial misery caused by the coronavirus

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Millions of Americans suffered long-term financial suffering as a result of the Great Recession and the crash of September 2008. Now the coronavirus pandemic is inflicting additional suffering on millions of Americans, and the law professor at UC Berkeley Frank Partnoy – in a thought-provoking article for The Atlantic’s July / August 2020 issue – warns that another banking crisis is a strong possibility.

“After months of living with the coronavirus pandemic,” explains Partnoy, 53, “American citizens are well aware of the toll it has taken on the economy: broken supply chains, record unemployment, small businesses in All of these are serious and could plunge the United States into a deep and prolonged recession. But there is also another threat to the economy. It lurks in the balance sheets of the big banks, and it could be cataclysmic. so, on top of all the uncertainty surrounding the pandemic, you woke up one morning to find that the financial sector had collapsed. “

Partnoy goes on to explain why he fears this possibility. Banks, according to Partnoy, “learned little from” the “catastrophe” of the “2008 crash” – and “new laws designed to prevent them from taking too much risk have failed to do so. , we could be on the precipice of another crash, different from 2008 less in nature than in degree. This one could be worse. “

In 2010, Partnoy notes, Congress passed the Dodd-Frank Act “to prevent the next crisis”. But one financial instrument that Partnoy says has become problematic is what’s known as a CLO or “secured loan bond” – not to be confused with a CDO or secured debt bond.

“After the housing crisis,” notes Partnoy, “risky CDOs naturally fell out of favor. Demand shifted to a similar – and equally risky – instrument, one that even bears a similar name: the CLO or the secured loan obligation. A CLO works and speaks like a CDO, but instead of loans to homebuyers are loans to businesses – in particular, distressed businesses. CLOs are a grouping of effect loans. leverage, the subprime mortgages of the business world have maximized their borrowing and can no longer sell bonds directly to investors or benefit from a traditional bank loan. “

Partnoy observes that CLOs have been “praised by Federal Reserve Chairman Jerome Powell and Treasury Secretary Steven Mnuchin for shifting the risk of leveraged loans out of the banking system.” But according to Partnoy, that doesn’t mean they aren’t risky.

Partnoy concludes his article on Atlantic on a disturbing note, warning that the financial problems resulting from the coronavirus pandemic could get even worse if the big banks were allowed to take dangerous risks.

“If we can make it through next year without waking up, we need to find ways to prevent the big banks from going all-in on bets they can’t afford to lose,” Partnoy explains. “Their luck – and ours – will eventually run out.”

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