“The 10-year note yield is where it was in mid-October [2022] when the funds rate was barely north of 3 percent. Bond market is saying recession/disinflation is in our future,” said economist David Rosenberg, on Mar. 9.
This statement was issued before Silicon Valley Bank (SVB), Silvergate Bank, and Signature bank had their collective meltdowns.
When I began writing this article—last Monday—these banks were still in operation. Then they collapsed. At the time, Silicon Valley Bank was the sixteenth largest bank in the United States, and the failure of Silicon Valley Bank and Signature Bank now rank as the second- and third-largest failures in U.S. banking history, just behind Washington Mutual in 2008.
In very short order, the Federal Reserve, the Federal Deposit Insurance Corp. (FDIC), and the Treasury Department stepped in to stave off a debatable contagion. This undoubtedly changes the approach of the Federal Reserve at the next rate-setting meeting of the Federal Open Market Committee (FOMC), on Mar. 21–22.
While a U.S. bank collapsing in 48 hours is shocking, no one knows how bad the contagion would have been.
While other banks clearly suffered—San Francisco’s First Republic; PacWest Bancorp; Western Alliance Bancorp; and Zions Bancorporation, for example—these are all West Coast market banks (almost exclusively).
The West Coast wields hefty economic power, but its vast land mass and unconnected cities create a separate economy of sorts, often limited in influence to its interstate trading partners and bordering states. Simply put, whatever happens economically in California does not necessarily reverberate throughout America.
The politics are also different. While I do not know the intricacies of California’s financial regulators, The Wall Street Journal ran a very important piece on the meltdown of Silicon Valley Bank, pointing out that the bank was too focused on promoting diversity, underestimating customer withdrawals, and hiring the wrong people. There’s also a chance banking regulators were asleep at the wheel.
On the bank bailout, many were conflicted. Countless venture capitalists called for Silicon Valley Bank’s demise. Meanwhile, PayPal co-founder and venture capitalist David Sacks took to Twitter blasting the Fed and forecasting that the U.S. startup ecosystem was in danger of evaporating.
Even New York tycoon Bill Ackman sounded the alarms, stressing that our regional banking system was at risk of losing autonomy, with bank bailout risk permanently shifting to taxpayers.
Is the West Coast banking disaster a harbinger of what’s to come? Not in my opinion. I think SVB’s demise was due to mismanagement and negligence, while Signature and Silvergate imploded from the crypto/FTX collapse.
Prior to the collapse of Silicon Valley Bank and Signature, most financiers and economists expected the Fed to raise rates by 50 basis points, to 4.75 percent at the FOMC meeting on Mar. 21–22.
The planned increase continued despite facing a 20 percent plunge in shipping container imports the past two months, and record inflation. Inflation is currently at 6.0 percent from January, lower than the four-decade high of 9.1 percent last June, but still very much away from the Fed’s target of 2 percent inflation.
Last week’s job numbers caused even more confusion, as The Guardian reported: “The number was sharply lower than the revised 504,000 new jobs the Labor Department announced were added in January, following months of slowed job growth. But it was far higher than the 220,000 economists had been expecting and comes as inflation has remained stubbornly high.”
Regardless, it is clear we have a serious inflation problem.
Once inflation takes hold, it is hard to get rid of. According to February’s CPI release, shelter (housing) is at 8.1 percent (year over year); transportation at 14.6 percent (year over year); food at 9.5 percent (year over year); and airline fares at 26.5 percent (year over year).
Granted, shelter can be partially blamed on low housing supply and transportation and airline fares from higher energy prices. Still, unemployment is at its lowest in 54 years, and low levels of unemployment typically correspond with higher inflation
At the March meeting, expect the Fed to pump the brakes and slow down the rate hikes, largely, if not wholly, because of the banking disaster. At least one bank thinks the Fed will cut rates; but according to CNBC, there is an 85 percent probability of a 25 basis-point (0.25 percent) increase at the Fed’s next meeting of the FOMC.
If there are no surprises between the meetings on Mar. 21 and May 2, expect the Fed to continue with rate hikes throughout the summer.
