Opinion - Editorials   

Travails of the U.S. credit market

The ongoing turmoil in the U.S. credit and housing markets has begun to take its toll on the top banks and institutions that have been left holding a large chunk of assets of very doubtful quality. A few heads were expected to roll as the process of fixing responsibility got under way. However, the recent resignation of Citibank’s Chairman and CEO Charles Prince after the bank announced an $11.5 billion write-off on top of a $6.5 billion in the previous quarter under lines the magnitude of the crisis in a way no other development has done. Just a week earlier, Stan O’Neal, head of Merrill Lynch, a much-admired investment bank, made a similar exit. Citibank with $2.35 trillion in assets at the end of September is the largest bank in the United States and it operates in 100 countries, having a workforce of over 300,000. Such a large size, the outcome of several mergers and acquisitions, brings with it enormous complexities. Intense competition within the U.S. during a period of excess liquidity might have forced the big American banks to take unacceptable risks. The sub-prime crisis, an outcome of reckless provision of home loans to borrowers with unsatisfactory credit records, has done the maximum damage to the banks but it is not the only culprit. Certain other practices, especially the related one of pooling the mortgage-backed securities to form complex instruments such as collateralised debt obligations, have cost the banks and the U.S. economy dear. The risks such instruments pose were evidently not made known to investors, who in many instances have been the big banks themselves.

There are some important lessons for India. The adoption of the universal banking model has made it possible for large commercial banks to undertake multifarious activities such as insurance and share trading under one common brand. There are indications that they may not be equally adept at every one of these tasks. Certain inherently complex financial products such as derivatives are now gaining in popularity. A comparison with the developed world might not seem appropriate, given the vastly differing sizes of the financial systems. Yet, looking at the way things could go so horribly wrong in the U.S., it is time to wake up and strengthen credit evaluation systems and procedures.

Printer friendly page  
Send this article to Friends by E-Mail

Stories in this Section

Congress dreams
Travails of the U.S. credit market
Energy security and life beyond Chevron
Pakistan’s future is without Musharraf
Spain’s divorce rate soars after rules relaxed
The nuclear deal
Pertinent questions
Pakistan politics
Capital punishment
‘For Southeast Asia, to have India as a partner is a tremendous plus’

Copyright © 2007, The Hindu. Republication or redissemination of the contents of this screen are expressly prohibited without the written consent of The Hindu