How the threat of a global banking crisis appeared to influence central bank monetary policy!
24 March 2023, 06:56 | Updated: 24 March 2023, 07:56
The month of March 2023 saw the world’s economy, and its markets hurled into a vortex of almost uncontrollable seismic proportions. Volatility of that magnitude in equity, bond and foreign exchange markets had not been experienced since the 2008/9 ‘credit crisis.’
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However, even from the capriciousness emanating from the Pandemic in 2020 was not as pronounced, even though equity and commodity prices fell like stones.
Why? Uncertainty! – markets and economies cope remarkably well from good and bad news, but they don’t handle uncertainty at all well.
Three weeks ago, many market gurus predicted a 50-basis point hike by the FED rate to 5% to 5.25% on 22nd March, to finally ‘knock inflation on the head’, with the more cautious MPC probably implementing a 25-basis point rise to 4.25%. The general thought around the Western world was that rates were likely to peak soon, in the hope that inflation would ‘come back of the bridle’ – US inflation was at 6% and the Eurozone at 8.5%.
The UK was still at the top of the pile having posted a 10.1% print for January 2023, with a consensus that the ONS’S posting this past Wednesday would see the rate fall to 9.9% for February.
As we now know a surprising and disappointing print of 10.4% was posted – much of it down to food prices stubbornly increasing to 18%! Central banks were now facing a three-pronged conundrum. Inflation, contagion from a possible banking crisis, and preventing a damaging recession.
How could they deliver stability, whilst at the same time, deal with these anomalies, which threatened to destabilise the global economy?
No one legislated for the possible demise of SVB Bank, First Republic Bank of California, and other US regional banks, manifesting themselves as serious threats to the US banking sector.
Nor did Central Banks and global investors expect to be facing an even greater crisis, involving the Swiss banking mogul of yesteryear, Credit Suisse. Its plight threw markets into turmoil, resulting in investors and predators running around like headless chickens.
It took bold and positive action from the FED and the Swiss National Bank to calm markets, prevent contagion, restore confidence, thus bringing some sense of perspective back into global equities and official bond markets.
They were supported by the Bank of England, who policed SVB Bank (UK) into the tender loving care of HSBC. The coordinated approach was so different to 2008/9, when cooperation took far too long to provide the necessary stability and confidence required.
It then transpired that UBS bought Credit Suisse for a Dollar. However ‘Additional Tier One’ bonds holders lost $17 billion, which sent waves of concern out to similar bondholders in other banks.
These bondholders were looking for sufficient reassurance that the action taken by the Swiss National Bank would not necessarily affect bondholders in other international banks.
Their fears are close to being quelled. US Treasury Secretary Janet Yellen and the FED also made it very clear that SVB Bank and other US banks were NOT being bailed out for billions of Dollars, they were being helped by the banking fraternity.
It goes without saying that confidence in the banking sector plays more than a ‘spear-carrying’ role. It is fundamental that the public has confidence in the sector. The advent of technology and cryptocurrencies enables vast amounts of money to be moved around in nanoseconds. Last week SVB lost $42 billion of deposits in almost a heartbeat.
The regulatory authorities will be cognisant of that fact. However, there is a real threat that large banks could become larger and smaller banks could disappear. Another factor that needs to be taken into account, is that inevitably tougher regulation and a lack of confidence in the sector could see a contraction of lending.
This would damage the recovery process of the economy. Also, money lent to private equity for the purposes of financing many corporate deals is gargantuan in size. Consequently, the stability of a global banking sector is of the essence.
The financial turmoil of the last week put monetary policy under the cosh. At the end of last week, the bond markets, which had oscillated like ‘a cork in a bath’, were suggesting no change in the FED rate and UK bank rate, such was the level of uncertainty.
There have been 11 US rate increases in the last two years and ten UK rate changes. The US economy is more robust than the UK’S; so, rate increases are not so damaging to the consumer. Any rate increases above 4.5% in the UK would send out distress signals to the consumer, especially those with mortgages, leading to greater and unacceptable financial duress. Hence the reason that the FED and the MPC chose a moderated course of action.
We must all hope that rates are close to peaking and that inflation will start to abate.
There is no doubt that a modest recession cannot be ruled out and as Paul Hill of PMH Capital put it so succinctly – “One possible 'Get Out Jail card' though - could be if there's a Ukraine/Russia ceasefire!”
