The Collapse of Silicon Valley Bank: Causes and Consequences
The measures taken by the Fed and the FDIC (Federal Deposit Insurance Corporation) have helped contain the problems related to U.S. banks, so there should be no lasting impact on financial stability.
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The Cause of Silicon Valley Bank's Collapse
In the case of Silicon Valley Bank (SVB), it is worth noting that the concentration of its deposits in “startups” —which tend to be less stable than those of “retail customers”—was a weakness in its business model.
The ratio of positions (Treasuries, bonds, MBS, etc.) considered “held to maturity” (basically, not recording their mark-to-market values on the books), was twice the average of other banks.
Systemic risk is contained for now following the measures taken by the Treasury and the Fed
The U.S. Treasury asked the FDIC (Federal Deposit Insurance Corporation) that all depositors and checking account holders at the banks under receivership receive 100% of their money starting Monday, March 13.
A new, major program of facilities by the Fed to provide liquidity to banks on preferential terms. The Federal Reserve created a Bank Term Funding Program (BTFP) with new terms, under which banks can exchange high-quality securities (Treasuries, MBS) for cash at par value; thus, they will be able to monetize securities well above market value.
The measures taken by the Fed and the FDIC have helped contain the problems related to U.S. banks, so there should be no lasting impact on financial stability, and the Swiss National Bank would do the same to support Credit Suisse.
However, increased volatility, the prospect of greater regulation, and concerns that stricter credit standards could slow growth, are factors that may have some impact on the equity and credit markets and lead to slightly higher risk premiums.
Finally, we believe that the overall assessment of the economy, monetary policy, and the financial system has become more difficult, and that in itself justifies a more cautious approach to risk.
Impact on the Fed's Monetary Policy
The Fed is not indifferent to these types of events that threaten financial stability, and for now, it should prioritize that mandate.
Does that mean the Federal Reserve will simply give up its fight against inflation? In principle, while recent developments should make them think twice about the pace of the ongoing monetary tightening, it is premature to conclude that the tightening cycle (rate hikes) has ended. If financial risks stabilize and inflation persists, the central bank may refocus on its price stability mandate, but there is discretion regarding how aggressively it implements that mandate.
That said, the collapses of SVB and Signature Bank should serve as a wake-up call that the Fed has already tightened policy significantly. As a result, with the flood of liquidity receding and the pressure this is putting on banks—which could push the U.S. economy into a recession— we shouldn’t be surprised if the Fed signals a pause in rate hikes and quantitative tightening (QT) at its upcoming meetings.
