US central bankers face an unenviable task when they gather in Washington next week: tackling persistent inflation without adding to financial sector turmoil following the rapid collapse of Silicon Valley Bank.
The Federal Reserve has raised interest rates eight times since last year in the face of decades of high inflation as it looks to cool the economy without tipping it into recession.
While Fed Chairman Jerome Powell previously signaled a willingness to accelerate rate hikes if necessary, most analysts and traders see a small 25 basis point hike as the most likely outcome Wednesday at the end of the Fed’s two-day meeting.
A quarter percentage point increase would match the size of the Fed’s last hike in February.
With fears of contagion following the rapid failures of three mid-sized lenders earlier this month, a minority of observers also believe the Fed could halt its rate hikes.
Interest rate risk: SVB’s nemesis, a well-known enemy in the banking sector
A catalyst for the demise of Silicon Valley Bank (SVB) was the Fed’s rapid shift from near-zero interest rates to steep increases, a turn that rapidly lowered the value of SVB’s holdings tied to long US Treasuries.
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Given the market turbulence, a larger increase of 50 basis points is now “off the table,” Citigroup’s global chief economist Nathan Sheets said in an interview with AFP.
“My expectation is that it will be 25, but that will be a debate – and where the markets are next Tuesday and Wednesday will be critical,” he said.
From 50 basis points to zero
SVB’s dramatic implosion this month was the biggest bank failure since the 2008 financial crisis.
The failure of the California high-tech lender on March 10 and the collapse of New York’s Signature Bank a few days later triggered a slide in regional bank stocks and led many analysts to conclude that the Fed will abandon an expected rate hike. of walks.
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Powell told senators earlier this month that raising the benchmark lending rate may be necessary to tame “pervasive” inflationary pressures that are keeping price increases above the bank’s long-term target of two percent.
Futures traders responded by pricing in a 50 basis point increase, according to CME Group.
But the financial stress that SVB’s failure brought to light caused a dramatic reversal in expectations.
The strains in the financial sector are likely to have weakened the Fed’s willingness to move more aggressively on March 21 and 22, Bank of America U.S. economist Michael Gapen said on Friday.
“We believe recent events have changed the debate,” he wrote in a note to clients. “We believe the debate is now between a 25 (basis point) rate hike in March or none at all.”
Cooler data is emerging
Data for February show some corners of the US economy are now beginning to contract – easing pressure on the Fed – while the consumer price index’s measure of inflation fell slightly to an annual rate of 6.0 percent.
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U.S. retail sales and wholesale prices fell last month, giving the Federal Open Market Committee some breathing room to consider when it will consider another rate hike.
But the Fed’s preferred measure of inflation showed an annual increase in January, suggesting there is still a long way to go before price increases are brought back under control.
The turmoil in the banking sector is not over either, with many regional banks seeing their shares plunge again at the end of the week despite intervention from US regulators and some of Wall Street’s biggest banks.
“Stress in financial markets suggests, at a minimum, that the Fed should proceed with caution,” Bank of America’s Gapen said.