In the latest instalment of the Global Financial Crisis (“GFC”), following the lead of Ireland and other countries, the Australian Government has taken the extraordinary step of guaranteeing all deposits with Australian banks, building societies and credit unions as well as locally incorporated subsidiaries of foreign banks. The guarantee can also extend to wholesale debt (if banks pay an as yet undetermined guarantee fee), which allows protection of bonds issued by Australian banks offshore.
This move followed a week of very bad news in global financial markets with a wave of problems with European banks, including the collapse of all of Iceland’s banks, and huge falls across stock markets. In this environment, it had become extremely difficult for any banks, even the relatively strong Australian banks, to borrow in global money markets, while closer to home retail depositors were starting to worry about the safety of their savings. As I noted in an earlier post on AIG, when it comes to banking, if enough people think you have a problem, then you do have a problem. In a banking version of the prisoner’s dilemma, as an individual it makes sense to take your money out of a bank you are worried about, but if others think and act the same way, everyone is worse off. The actions of the Government are aimed squarely at shoring up confidence to break this dilemma.
Local banks are currently working their way through the implications of the Government’s move. For example, they will probably decide that it doesn’t make sense to pay for a guarantee on locally issued bank bills as that market is not as broken as global money markets. Overall, however, it is good news for banks who still need to raise significant sums of money offshore on a regular basis, and it is good news for every depositor who was wondering whether to move out of a credit union to one of the big four or even whether their money would be safe there.
There is likely to be more bad news emerging from the GFC, including longer-term economic consequences, and Government action can help but probably not cure the problems. But for now, the market is taking heart and the Australian share market is up around 3%.
UPDATE: I have posted an update on the guarantee following a week of parliamentary skirmishing about whether or not the Government consulted Reserve Bank before acting.
Also, the Government appears to have pulled down their original list of banks covered by the deposit guarantee, so I have republished the full list.