Interview With Anat Admati: Banks Still Too Sick to Pay Dividends
Bank shareholders should take a back seat to taxpayers.
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Anat Admati is professor of finance and economics at Stanford's Graduate School of Business.
KIPLINGER: Many big banks had to suspend dividends in the wake of the financial crisis. Now the Federal Reserve says it's okay to reinstate them. You disagree. Why?
ADMATI: The dividend issue is part of a larger one about banks' high levels of debt relative to equity on their balance sheets. Right now, banks are still funding themselves with too much debt. Think of a subprime borrower who buys a house with very little equity. If the borrower puts only a tiny bit of cash into the deal and the price of the house goes down (or in the case of banks, the value of their loan portfolios), he or she is wiped out.
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But aren't the banks healthier now?
Just because bank profits are coming back doesn't mean the system is healthy. High debt levels magnify profits significantly -- just as the subprime borrower who puts little down will make a lot if the price rises just a bit.
Meanwhile, the fallout from the crisis continues. For instance, banks might have to pay for sorting out the legal problems associated with foreclosures based on poor mortgage documentation.
Now that banks have raised dividends, is our financial system and economy at greater risk?
I think it is. The large banks are still so interconnected. As soon as one lender suspects something is wrong with another, short-term overnight lending could start to freeze. That credit is the lifeblood of the economy. Businesses aren't able to perform daily functions, such as paying suppliers, if they can't obtain short-term funding. When banks stop lending, it causes a ripple effect across the economy, slowing activity.
What's the big rush to pay dividends?
Banks want to restore shareholder wealth. This is to be expected. But I'm speaking for taxpayers and for the system.
When should dividends be reinstated?
Dividends and share buybacks should be withheld until banks build up more equity by retaining earnings instead of paying them out. To the extent that this process puts the burden of backing up the banks' debts on shareholders rather than on taxpayers, it might have a negative impact on bank-stock prices. But it would be for an extremely good cause. [For more on bank stocks, see Opening Shot.]
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