, March 3 (Zhongxin Finance, Gong Hongyu) The most difficult choice in history! In the early morning of the 23rd, Beijing time, the Federal Open Market Committee of the Federal Reserve announced that it would raise the target range of the federal funds rate by 23 basis points to between 25.4% and 75%.

Unlike previous forecasts of many institutions, the Fed did not pause interest rate hikes this time due to the US banking crisis. And the interest rate that hit a new high after the interest rate hike also "frightened" the US stocks. As of the close of trading on the 22nd, the three major stock indexes of the US stock market plunged and fell, and many bank stocks were hit hard.

Fed Chairman Jerome Powell. Photo by China News Agency reporter Sha Hanting

The Fed in a dilemma

"The Fed has a conundrum. If interest rates are raised, more banks could fall into crisis. If interest rates are left unchanged, inflation will continue. Jeffrey Sachs, an expert on global development and a professor of economics at Columbia University, said in an interview with China News Finance.

On March 3, the collapse of the Silicon Valley Bank opened the curtain on the US banking crisis. Subsequently, the signing bank was also closed. The Wall Street Journal reported on the 10th that as many as 17 banks in the United States may have similar risks to Silicon Valley banks.

As one of the drivers of this turmoil, the Fed's interest rate hike is considered to be over. A number of experts previously told Zhongxin Finance that it is difficult for the Fed to raise interest rates until the crisis of bank confidence subsides, otherwise it will bring risks to more banks.

However, constrained by high inflation and boiling public discontent, the balance of the Fed's decision-making eventually shifted to the side of anti-inflation and interest rate hikes.

In a statement from the Federal Open Market Committee (FOMC), the Fed said recent developments could lead to tighter credit conditions for households and businesses and weigh on economic activity, employment and inflation. The extent of these effects is uncertain. The Committee remains highly concerned about inflation risks.

"Despite warnings about the potential impact of the banking crisis, the committee unanimously approved the rate hike." Yang Delong, chief economist and fund manager of Qianhai Open Source Fund, said.

Data showed that the US consumer price index (CPI) rose 2.0% month-on-month and 4% year-on-year in February. The increase was narrower than in January, but still well above the Fed's long-term target of 6%.

Wang Youxin, a senior researcher at Bank of China, said that although there has been liquidity pressure in the US banking industry recently, in order to continue to control inflation and avoid sending wrong signals to the market, the Fed has resisted pressure to raise interest rates further.

On the 22nd US time, the three major indexes of US stocks closed performance.

Banking industry pain intensifies, inflation is still a stubborn problem?

Just as the Fed interest rate meeting was held, US Treasury Secretary Yellen claimed at a Senate hearing on the other side that US regulators do not intend to provide a "package" of deposit insurance to stabilize the US banking system. The comments shattered market expectations that the government could provide guarantees to prevent further bank runs.

After Yellen's speech and the announcement of the Fed's interest rate hike, the three major indexes of U.S. stocks plunged and fell, with the Dow, NASDAQ and S&P all falling by more than 1.6%. Bank stocks were even harder, with First Republic Bank closing down 15.47 percent, Wells Fargo down 3.3 percent, Citi down 3 percent, JPMorgan Chase down about 2.6 percent, Morgan Stanley down nearly 1.4 percent and Goldman Sachs down 1.1 percent.

Wang Youxin, a senior researcher at the Bank of China, interpreted that the Fed's further interest rate hike will undoubtedly further increase the pressure on the US banking industry, and the asset side will face more book losses, before according to the US Federal Deposit Insurance Corporation (FDIC) statistics, the US banking industry due to investment in Treasury bonds and MBS and other financial products, unrealized book losses of up to $6600 billion, as interest rates rise further, book losses may further increase.

"Under the outflow of deposits and risk aversion, the cost of deposit absorption for small and medium-sized banks in the United States will further increase, while under the inverted yield curve, interest rate spreads may further narrow and operating pressure will increase." Wang Youxin said.

In addition, Dong Ximiao, chief researcher of CMF Finance, mentioned that the interest rate hike has increased the possibility of the US economy falling into a long-term recession, inducing the liquidity crisis of the US banking system, especially small and medium-sized banks, and aggravating global cross-border capital flows and financial market volatility.

To make matters worse, while threatening financial stability and dragging down economic growth, experts worry that raising interest rates will also do little to help the Fed achieve its inflation-lowering goals.

Dong Ximiao said that the high inflation rate in the United States is related to the serious disruption of the global industrial chain and supply chain after the outbreak of the epidemic, and to the rapid rise in international energy prices after the intensification of geopolitical conflicts. None of this can be solved by the Fed by raising interest rates, and the marginal utility of rate hikes is declining.

Infographic: US dollars. Photo by Liu Yanghe

Coming to an end of the rate hike cycle?

The 25 basis point interest rate hike has been settled, the market is concerned, how will the Fed's policy go?

The Fed's FOMC March dot plot shows that 3 Fed officials all forecast interest rates to rise above 17%, and maintain the Fed's median forecast of 5.12% implied by the December dot plot. That could mean the Fed has only room to raise rates again this year.

Li Xunlei, chief economist of Zhongtai Securities, previously wrote that under the benchmark scenario, the Fed may raise interest rates by 3 basis points in March and May, and then end the interest rate hike process.

Yang Delong interpreted that the recent banking turmoil in the United States has reduced the need for further interest rate hikes in the future. The Fed believes that the banking turmoil will lead to spontaneous "credit tightening" by banks, which can replace some of the work of raising interest rates, so that the Fed does not need to raise interest rates more.

So, if the rate hike process ends, where will US monetary policy go? Will there be a rate cut?

Yang Delong analyzed that Fed officials' median forecast for the federal funds rate at the end of 2023 remained unchanged at 5.1%, and the interest rate forecast for the end of 2024 was even raised to 4.3% (the previous value was 4.1%), which shows that Fed officials still have no idea of cutting interest rates this year, and they are more restrained in cutting interest rates next year.

In Wang Youxin's view, the US banking industry may significantly tighten credit policies under liquidity pressure, the cost of loans for enterprises and residents will rise, and the availability of financing will decline, which may lead to a rapid decline in economic growth and demand. In this context, the weight of inflation in monetary policy setting may decrease, the Fed will pay more attention to economic growth and financial stability, and monetary policy may adjust accordingly.

"The Fed's statement of not cutting interest rates this year may be more of an expected guide, and how the specific policy is adjusted may depend on changes in the situation." Wang Youxin said. (End)