Bank earnings were hit hard this week. Even if the results at Citigroup (C), Merrill Lynch (MER), and JP Morgan (JPM) did not drive the credit system into insolvency, each company had forecasts which were somewhere between lukewarm and terrible.

Some analysts still cling to the childish notion that the $700 billion from the Treasury will save the day. The $60 billion that the Swiss government took off the books of UBS (UBS) falls into the same category.  Financial socialism may work, but it is taking its own sweet time.

Perhaps the most pure and pointed analysis of how banks and brokerages are doing is how they behave in their relationships with the Fed day-in and day-out. The relatively new “emergency lending window” is a place so financial firms can turn in their toilet paper of mortgage securities and LBO debts and get real capital. It is a short-term facility and money taken carries only the most modest rate of interest.

Over the most recent week, the companies that can take money from the window hit it with great ferociousness. That is evidence that the financial world is still starving for credit and short on capital.
Based on information given to Reuters, “Banks and dealers’ overall direct borrowings from the Fed averaged a record $437.53 billion per day in the week ended October 15, topping the previous week’s $420.16 billion per day.” The figure is staggering, but, based on the source, almost certainly true.

The danger of keeping the window open is that banks will never face up to their problems, take significant write-offs, and come clean with Wall St. about their capital needs. Management at the largest banks and brokerages are afraid that the markets will turn on them and take them down the way they did WaMu and Lehman. Their fears are almost certainly justified. No matter how many people are hurt, investors will crawl over one another’s bodies to hit the exits.

The government has very little choice. It does not have the capital to invest directly into banks to make up for over $400 billion in borrowing every day. The Fed will be damned for all eternity if it starts the series of events that takes banking under.

In the meantime, Wall St. and the larger economy can watch the weekly emergency borrowing. Until the number starts to fall sharply, the maelstrom is not over.

Douglas A. McIntyre

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