Banks, which were spooked by massive failures in their sector earlier this year and tightened lending to protect their margins, are bouncing back as the Federal Reserve may leave when it comes to raising interest rates.
The private credit crunch may have resulted from three of the largest bank failures in US history — all catering to ultra-rich clients bailed out at speed well above the standard $250,000 insurance limit set by the FDIC — and the president suggested Fed Jerome Powell said on Friday that he had condoned further rate hikes.
“While financial stabilization tools helped calm conditions in the banking sector, developments there … contribute to a tightening of credit conditions,” Powell said. “As a result, our policy rate may not need to go up as much as it would have to achieve our goals.”
The latest rate hike by the Fed earlier this month put interest rates in a range of 5 percent to 5.25 percent, meeting the bank’s latest final forecast for where rates should end this year. This means that the Fed does not have to worry about credibility concerns and fulfillment of previous promises, but can simply respond to what is happening in the economy in determining where interest rates are moved next.
Central bankers expect to cut interest rates to 4.3 percent next year and to 3.1 percent in 2025, as consumer inflation continues to fall from its peak of 9.1 percent in 2022.
Bank failure and the financial sector’s response could accelerate the US economy toward recession, which the Fed has been predicting since March.
Powell said on Friday that conditions in the financial sector are “likely to impact economic growth, employment and inflation.”
Former Federal Reserve Chairman Ben Bernanke described the failures and response by the Federal Insurance Corporation (FDIC) and the Federal Reserve Bank, which expanded a private line of credit backed by taxpayer money, as following the “standard chain” of mismanagement, bank run-in, and fear of ” Contagion.”
Bernanke distinguished between recent bank failures and those that occurred during the global financial meltdown of 2007 and 2008, which resulted from aggressive loans given to people who could not afford them. Investment banks were bailed out by Congress for the money they lost while mortgage holders lost their homes.
Market commentators and even federal regulators have noted that the “bailout culture” of recent decades marks a departure from some supposed norms of free enterprise capitalism in which firms that fail due to poor management or outside forces are not artificially resuscitated by the state sector.
“We must plan for those bank failures by focusing on strong capital requirements and an effective decision framework as our ultimate best hope for ending the bailout culture,” FDIC board member Jonathan McKiernan wrote in a statement following the FDIC. In our country that allocates the gains while socializing the losses.” Acquisition of First Republic Bank.
“The bailout of SVB and Signature’s uninsured depositors on March 12 was an admission that 15 years of reform efforts have not been successful,” he added.
More pressure on financial markets comes from Congress’ refusal so far to raise the debt ceiling, which could force a default on the US public debt. The subject of debt negotiations between congressional leaders and the White House is paper requirements for programs that help low-income Americans, including food stamps and welfare.
Powell noted on Friday that the international economic conditions that have facilitated low inflation over the past several decades may change.
“Positive supply shocks related to globalization … may have contributed significantly to the period of low inflation that ended or came to a halt due to the onset of the epidemic,” he said.
“I think there about the massive increase in the global labor supply, the development of efficient global supply chains facilitated by technological advances and things like that. Those positive supply shocks don’t seem likely to be repeated,” Powell said.
While companies passed on to consumers the higher costs incurred by backups in the supply chain at the start of the pandemic, they were able to keep prices high and profit margins higher as the pandemic hit simply because consumers were conditioned to pay more.
This is known as the price-profit cycle and is the opposite of what happened in the 1970s, when wages and labor costs were associated with rising prices, and monetary tightening was undertaken in concert with the renegotiation of labor contracts. Wages did not keep pace with inflation during the current cycle.
Some commentators have noted that the way to combat profit-based inflation is to encourage consumers to revolt in the form of fewer purchases, which could prompt companies to cut their profit margins in order to clear inventories and compete for sales.
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