Banks do a lot of important work in the world.
They take deposits from people and pool them so they can lend the money to businesses or people who need money for a business idea they have. This could be a good business chance for a company that wants to grow or for a person who wants to buy a house.
When people save more, there is more money in the banking system. More money in the banking system means more loans and more economic growth. This growth is natural and good because people's savings are money they can use to buy more things in the future. So, when a business borrows more money and invests that capital to make more goods, it is a smart move because people already have more money saved to buy these goods.
This creates a healthy cycle that can be summed up as follows: "higher savings" leads to "more loans to businesses," which leads to "more business investment," which leads to "great consumer choices," and along the way, more jobs are created, which keeps the economy going.
Well, most of us know that the US had a negative savings rate last year. This means that we spent more than we made. This is less than 30 years ago, when we saved 7.5% of our salaries. So, we can see that people's savings have not led to the current economic boom.
On the other hand, economies also grow when interest rates are kept artificially low, like they were in the US. These low rates fueled the real estate bubble, which led to prices in the US and around the world that had never been seen before. And what's even more surprising is that there is no economic reason for these high prices, other than the fact that everyone thinks prices will keep going up.
Well, we're past that point now, and home prices are going down and the number of homes for sale is going up.
The problem with banks is that they get caught up in the herd mentality and lend more money to people so they can buy homes. And with adjustable rate mortgages, they are doing it in a way that is getting riskier and riskier.
At the moment, US commercial banks face huge risks because more than 60% of their earning assets are related to mortgages!!! Let me say that again: more than 60% of the assets of US commercial banks are related to mortgages, which is a record high since World War II.
Due to the above risks that banks face, any problems in the real estate market would have very bad effects on the US banking system. As an example, the Japanese banking system was crippled after the boom of the 1980s, when they put most of their money into real estate. Japan's economy stayed stagnant for the next 14 years, and it is only now starting to get better.
People with adjustable mortgages are feeling the pinch of higher monthly payments now that interest rates are going up and will keep going up. Because of this, the number of foreclosures is up 38% from last year, which hurts the banks' bottom lines.
Warren Buffet, who is worth billions of dollars, recently said that he has been looking at recent bank balance sheets and is very worried about the increasing number of defaults on their books.
The point is that you should be even more prepared and diversified than banks, even though they aren't. In the recently released eReport, "Recession: How to Survive and Thrive," there is a lot of information about how to get ready.
