Credit Suisse Crisis [UPSC Current Affairs]

In March 2023, the Swiss National Bank agreed to provide financial assistance of $54 billion to Credit Suisse which has been facing a financial crisis. What is the issue with Credit Suisse? Who bailed out Credit Suisse? Read this article for answers to these questions. The Credit Suisse crisis is an important development in global economic affairs and is hence, a topic relevant for the IAS exam.

Credit Suisse Crisis

Credit Suisse is the second-largest global investment bank and financial services firm in Switzerland. The bank faced withdrawals of close to $10 billion in March 2023, leading to a distress sale to Switzerland’s largest bank, UBS. This is the third major bank to collapse in just the past 10 days (March 2023). Silicon Valley Bank (SVB), the US’ 16th largest bank, and Signature Bank have also collapsed.

• Credit Suisse has been facing a financial crisis for the last 2-3 years and has been questioned for submitting its audited financial statements.
• Earlier, the bank had announced the existence of “material weaknesses” in its financial reporting, which left investors uncertain about the possibility of a financial rescue for the bank.
• The situation worsened when reports of its largest investor, Saudi National Bank (SNB), had ruled out providing further financial assistance due to regulatory issues.
• Additionally, an increase in the cost of insuring Credit Suisse Group’s bonds against default reached an all-time high indicating the credit stress for the bank. This triggered a massive sell-off in the stock and the stock plunged as much as 30%.

To read how the Credit Suisse crisis has affected the bank’s bondholders, click here.

Reasons behind Credit Suisse’s Crisis:

• The primary reason behind Credit Suisse’s crisis is the bank’s risky investments, which have resulted in significant losses. For example, Credit Suisse directed many customers to invest as much as $10 billion in Greensill Capital, a lender that intermediated between suppliers and clients. 
• Greensill’s ability to remain solvent was increasingly questioned, and by March 2021, it had filed for bankruptcy, denting Credit Suisse and its rich investors. 
• In the same month, Credit Suisse lost another $5.5 billion when Archegos Capital Management, a hedge fund, collapsed. 
• These losses, along with high-profile managerial malpractices and exits, have eroded investor confidence in the bank.

Is the Credit Suisse crisis as bad as the Silicon Valley Bank (SVB) collapse?

• While SVB’s crisis seemed to have emerged unexpectedly and became a systemic risk for the financial system, Credit Suisse’s financial difficulties were not entirely unforeseen. 
• It is crucial to acknowledge that Credit Suisse is significantly larger and more interconnected with the global financial system than SVB. Hence, a potential meltdown of Credit Suisse could have far-reaching consequences.

Causes of Banking Collapse

There are two ways to look at these bank collapses. 

• The first is to examine the specifics of each bank. Mismanagement, fraud, ignoring prudential norms, or undertaking risky bets are some reasons for the failure of banks. 
  • In the case of Credit Suisse, there was evidence of material weakness in the bank’s cash flow statements. 
  • In SVB, the bank put almost all its deposits in long-term US government bonds, making it vulnerable to bank runs, especially when interest rates rose.
• The second way to look at these collapses is to consider the macro picture. 
  • The global economy has undergone a long period of loose monetary policy, where central banks printed large amounts of money and made credit available at near-zero interest rates. 
  • However, there has been a sudden and sharp monetary tightening, resulting in a spike in interest rates and reduced money supply. 
  • Banks and businesses, that undertook risky bets during the period of cheap money, are struggling to deal with the sudden spike in funding costs. 
  • The spike in interest rates is happening too fast for banks and businesses to adjust, leading to growing fears of recession and financial instability.

Credit Suisse Crisis and Impact on India

• It is the 12th largest foreign bank in India, owning assets worth Rs 20,700 crore.
• Impact on Indian Banking System:
  • Credit Suisse owns just 0.1% of assets in the Indian banking system. This means that, even in the event of a collapse similar to SVB, the bank is not viewed as a direct threat to India.
  • Given the stringent liquidity norms existing in the Indian banking sector, an SVB or Credit Suisse-like episode is highly unlikely to happen in India.
    • The liquidity coverage ratio maintained under BASEL III norms by the Indian banks was apparently not met in the case of SVB.
    • In both SVB’s as well as Credit Suisse’s cases, there was a concentration of deposits from a particular region or from a particular kind of business. But most of the Indian banks have a good amount of diversification, which minimizes risk in that aspect too.
• Impact on Indian Derivative Market:
  • Credit Suisse’s significant presence in the derivatives market and its reliance on short-term borrowings, of which 96% have a tenure of up to two months, suggests that the assessment of counterparty risks may require some adjustment, particularly in the derivative market.
  • But RBI is keeping a close watch on the liquidity issues and counterparty exposures and will intervene when necessary.
• Impact on other sectors:
  • Though both SVB and Credit Suisse crises are unlikely to create any impact on the Indian banking system, the Indian information technology industry is likely to have some impact.
    • The biggest export markets for major Indian IT firms are the US and Europe.
    • Banking and Financial Services (BFSI) are the major revenue-generating segments for these firms.

Implications for the global economy:

• The recent bank collapses could have several implications for the global economy. 
• First, it could lead to a crisis of confidence in the banking sector, leading to bank runs and contagion to other banks. 
  • The Swiss government and regulators brokered the deal between Credit Suisse and UBS to contain the crisis of confidence and prevent contagion.
• Second, the collapse of banks could lead to a credit crunch, making it harder for businesses and individuals to access credit. This could lead to a slowdown in economic growth and investment. 
  • Additionally, the failure of banks could result in job losses and economic hardships for individuals.
• Finally, the banking collapses could lead to greater scrutiny and regulation of the banking sector. 
  • Regulators may introduce measures to prevent banks from undertaking risky bets and ensure compliance with prudential norms. 
  • However, this could also result in a decrease in profits for banks, leading to reduced lending and investment.

Conclusion:

• The recent collapses of Credit Suisse, SVB, and Signature Bank could have significant implications for the global economy. 
• While the specifics of each bank’s collapse may vary, the underlying cause of the failures could be attributed to risky bets, fraud, and mismanagement. 
• The sudden and sharp monetary tightening could be the macro reason behind these failures. The implications of these collapses could include a crisis of confidence, credit crunch, job losses, and increased regulation of the banking sector.

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