Fed Must Also Work to Prevent Financial Uncertainty from Growing

Editorial

12:30 JST, March 26, 2023

In addition to the task of preventing a recession while keeping inflation under control, a new challenge of calming financial uncertainty has been added. The U.S. Federal Reserve Board is under scrutiny as to whether it can appropriately steer the economy.

The Fed has decided to raise the target range for its policy rate by 0.25 points to 4.75% to 5.00% per year. This is the ninth consecutive rate hike since the U.S. central bank lifted its zero-interest rate policy in March 2022.

In the United States, credit concerns are spreading after the collapse of Silicon Valley Bank (SVB), the nation’s 16th-largest bank in terms of assets, and Signature Bank, the 29th-largest.

There had been speculation that the Fed would not raise the policy rate this time. Fed Chairman Jerome Powell revealed at the press conference that the board had considered halting interest rate hikes, but explained that it decided to continue because prices keep rising and the labor market continues to be very tight.

However, a rate hike that has a negative impact on the economy could spur financial uncertainty, and the Fed must manage its policy with extreme caution.

The Fed maintained its forecast of 5.1% for the policy rate at the end of 2023, unchanged from the previous forecast announced in December of last year. This level will be reached with one more rate hike.

In its latest statement, the Fed removed the phrase “ongoing increases in the target range will be appropriate” that was seen in previous statements, indicating its stance to deal with rate hikes flexibly. The Fed must carefully examine credit concerns and make careful decisions.

Continuing financial uncertainty could make banks reluctant to lend. This would have a major impact on the economy as a whole — making it difficult, for example, for companies and households to raise funds.

Powell emphasized that the Fed is “prepared to use all of its tools as needed to keep the banking system safe and sound.” All possible measures must be taken to ensure a smooth supply of funds to banks.

The rapid increase in interest rates by the Fed was one of the fundamental elements behind the collapse of SVB.

When interest rates rise, the values of bonds, such as U.S. Treasuries, will decline, causing banks to incur large unrealized losses on their bond holdings. This has led to credit concerns and accelerated the drain on deposits.

The Fed is also in charge of supervising banks, but it was unable to avoid the recent spate of bank failures. Supervision needs to be strengthened to deter financial uncertainty.

Financial uncertainty in the United States has spilled over into Europe as well. The share price of the ailing Swiss financial giant Credit Suisse plummeted, leading to a rescue merger by UBS, Switzerland’s largest bank.

The Fed and monetary authorities of other countries should share information closely and do their utmost to prevent current financial uncertainty from developing into a crisis in the financial system.

(From The Yomiuri Shimbun, March 26, 2023)