This 'Unknown' Big Bank Could Go Bust, Making the US Recession Worse

By: MoneyWeek

David Stevenson writes: Until very recently – perhaps just this week – you probably hadn't heard of CIT.

The company is one of the biggest lenders to American businesses. But despite all the flak that's been flying around financial firms over the last two years, it's hardly a name that trips off the tongue.

In fact, it's only making the news pages now because it's on the verge of going bust. If it does, it could be the fourth-biggest bust in US history. Yet many experts aren't too worried.

They should be. Small businesses are just as important to the economy as Wall Street's favoured investment banks. CIT's woes mean that America's recession could be about to get a lot more painful...

It's time to get to know this 'unknown' big bank

"If you've not heard of CIT, this is probably a good time to get acquainted with the company", says Izabella Kaminska on FT Alphaville. "CIT is the third-largest US railcar-leasing firm and the world's third-biggest aircraft financier. It also funds about one million businesses, including 300,000 retailers. Barclays Capital estimates that if the company was to fail it would be the fourth-largest bankruptcy by assets in US history, in between General Motors and Enron".
CIT has almost run out of money. It's already had some bailout help from the US government, and from Goldman Sachs. But so far, it's not been enough. CIT might have been around for more than 100 years, but its time is fast running out.

It has to 'roll over' about $1bn of floating rate notes maturing in August, which is another way of saying it needs to find a lot more cash very quickly.
It's tried to raise money by issuing its own debt. But to have any credibility (given that it's being issued by a company in such dire straits), this needs to be guaranteed by a serious backer such as the Federal Deposit Insurance Corporation (FDIC), one of America's banking regulators. But even six months after being asked, the FDIC hasn't given CIT the go-ahead.

Why not? Because no one's quite convinced that CIT is "too big to fail." It might well be "too small to save". Last night, US government-led rescue talks blew out. That's pushed CIT even closer to the edge.

Would it matter if CIT fails?

So would it matter if CIT goes to the wall? After all, a steady stream of American banks has gone under during the last few months, but you'd only know if you studied the small print on the financial pages. When the Bank of Wyoming was shut down by regulators last week, it caused scarcely a ripple.

Many reckon that CIT's demise wouldn't make much difference either. "A CIT failure would be unlikely to drag down other financial institutions", says Robert Cryan at Breakingviews.com. "Sorry CIT, you're not too big to fail. It's hardly fair, but it should be clear by now that only the biggest reckless lenders get a helping hand".

But here's the key point. CIT might not be Goldman Sachs. It might not be seen as "systemically important." But as Sandra Jones points out in the Los Angeles Times, CIT is a "major cog in making sure orders get paid for and delivered to stores. Without CIT, retail shipments for the crucial holiday shopping season could be in jeopardy, and could in turn set off a new wave of bankruptcies among retailers and vendors."

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So the future's looking much grimmer for many of those 300,000 American retailers, who will have to borrow money from somewhere else. And trying to find a new lender in the midst of a recession won't be easy.

It's not just retailers. "The problems at CIT are certain to mean more bad news for small businesses", says Robb Mandelbaum in the New York Times.

"From 2000 to 2008, it was the single largest lender in the Small Business Administration flagship loan programme". But the group's lending has since almost completely dried up. And it's not set to kick start again soon even if CIT does get a last-minute financial blood transfusion.

What's more, says Mandelbaum, "other banks could enter the small business market, but so far few have. Big players are retrenching". That means small businesses, the backbone of the country's wealth creation, will get hit again.

This is the last thing the US needs right now. The recession is still getting worse. Industrial production is still falling – down another 0.4% in June - house prices keep falling and job losses are soaring.

And Warren Buffett's favourite economic bellwether – trends in US freight train traffic – is also still deteriorating. Shipments at six of the largest US railroads were almost 20% lower last week than they were a year ago. If small company lending is slashed further, those shipments can only fall even more.

Will CIT's woes affect us here in Britain?

How will CIT's woes affect us here in Britain? Businesses may not be directly damaged, but we've seen many times recently how ripples have spread. Anything that hobbles the American economy will eventually hurt over here. We don't need that. At 2.4m, our own dole queues are now the largest in 14 years and set to grow a lot longer.

Meanwhile, the recession is causing much bigger long-term changes. In this week's magazine, out tomorrow, we show how consumers on both sides of the Atlantic are starting a huge rethink about how they'll be spending – or rather saving – their money in the future (if you're not already a subscriber, claim your first three issues free here).

And finally, just to remind you, we're currently doing a great offer on a package which will get you both a MoneyWeek subscription and a subscription to all the investment newsletters written by our MoneyWeek contributors - but it closes tomorrow - 17th July, so check it out as soon as you can to see if it's for you. Find out more here.

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By David Stevenson for Money Morning, the free daily investment email from MoneyWeek magazine.

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