By Jeffrey Bartash
Higher interest rates continue to increase the risk of recession
The sudden collapse of high-tech lender Silicon Valley Bank is unlikely to hurt the US economy, analysts say, but it could increase the chances of a recession that many believe is inevitable later this year.
The second-largest bank failure in US history on Friday sparked fears of spreading financial instability that would damage the economy much like what happened when Lehman Brothers collapsed in 2008.
Still, U.S. regulators acted quickly over the weekend to limit the damage. They took control of SVB and implemented emergency measures to make lending available to any bank that needs it. In contrast, regulators were slower to act in 2008.
“That should calm fears that might otherwise have triggered further bank runs,” said lead US analyst John Canavan of Oxford Economics.
Still, the US economy may not escape.
First, investors and depositors are likely to remain anxious about the health of the financial system.
See also: Regional banks persist despite Fed backstop, with First Republic’s stock halted for trading
Both large and small banks may also be more hesitant to lend, say analysts, which will contribute to lower growth and employment. Startups rely on loans to get off the ground, especially high-tech firms in Silicon Valley.
“Fed officials must consider that more cautious bank lending would be an additional drag on economic activity, and that could be significant,” economists at Nationwide wrote in a note to clients
Even before the SVB crisis, the US economy has fallen to a slower growth track due to rising interest rates. The Federal Reserve is raising interest rates to try to curb the highest inflation in 40 years.
A small majority of economists think a recession is likely this year due to rising interest rates. Higher borrowing costs slow the economy by reducing consumer spending and business investment.
The Fed’s actions also exposed the weakness of SVB’s business model. The bank made good profits when interest rates were low and came under intense stress as prices rose.
Opinion: Silicon Valley Bank survived the dot-com crash and the Great Recession, but SVB met its match in Powell’s hawkish Fed
SVB’s demise has led to calls for the Fed to reduce or delay its next rate hike. The central bank was expected to raise a short-term policy rate by a quarter to half a point at its next strategy session on 21-22. March.
Should the Fed slow down or stop interest rate increases, the economy could get a small boost temporarily. But that would only be the case if inflation also continued to decline.
The consumer price index released on Tuesday probably didn’t give the Fed much leeway, economists say. Prices rose sharply again and strengthened the view that the Fed will continue with another small interest rate increase next week.
Pressure on bank stocks also appeared to ease slightly, adding to the idea that the Fed will continue as expected.
Economists believe the broader financial system is in much better shape than it was during the global financial crisis more than a decade ago.
The biggest US banks undergo regular stress tests, and they have more capital on hand due to significant reforms after the 2008 banking panic.
While some smaller banks may still fail, analysts say, they don’t see a repeat of 2007-09. After all, the United States has experienced other failures of financial institutions without significant economic fallout, notably Long-Term Capital Management in 1998 and Continental Illinois in 1984.
“While I may be a sucker, I am prepared to believe the hype that the banking sector as a whole is well capitalized and can weather this storm,” said Stephen Stanley, chief economist at Santander Capital Markets.
“I wouldn’t be surprised to see a few more casualties before the dust settles, but there is no particular reason why this turmoil must necessarily result in a severe economic blow,” he added.
US stocks rose in Tuesday trading after the Fed, the US Treasury and the Federal Deposit Insurance Corp. intervened to prop up the financial system.
Stocks had fallen sharply and bond prices rose on Friday after SVP was abruptly shut down.
– Jeffrey Bartash
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