US authorities raced on Sunday to stem jitters about the health of the nation’s financial system, pledging to fully protect all depositors’ money following the collapse of Silicon Valley Bank while also giving any banks squeezed for cash easier terms on short-term loans.
The Treasury Department, Federal Reserve and Federal Deposit Insurance Corp. jointly announced the efforts, aimed at strengthening confidence in the banking system after SVB’s failure spurred worry about spillover effects. Concerns spread Sunday when state regulators closed New York’s Signature Bank.
Regulators acted swiftly on a number of fronts to contain the potential fallout:
With a senior Treasury official cautioning there were other banks that appeared to be in similar situations to SVB and Signature, regulators’ top concern was assuring business and household depositors were made whole on their deposits. That may help avoid any additional bank runs that could heighten the risk of a recession, at a time when the Fed continues to raise interest rates to rein in inflation.
The steps taken by regulators to shore up the American financial sector drove US stock futures and Treasuries higher in early trading Monday in Asia, as investors reacted to the moves. Contracts on the S&P 500 were up 1.2 per cent as of 10:02 a.m. in Tokyo. Bank stocks had plunged last week by the most since the March 2020 pandemic shock.
US regulators emphasised that taxpayers won’t be on the hook for protecting SVB and Signature deposits, and Treasury and Fed officials rejected the idea that the banks are being bailed out — showcasing the potential political sensitivities of the weekend moves. The regulators said shareholders and certain unsecured debtholders will be wiped out, while management was fired.
President Joe Biden, in a statement Sunday night, said the solution “protects American workers and small businesses, and keeps our financial system safe.”
For the Fed, the collapse of two powerhouse regional banks will test their resolve as they decide their next move on rates. Chair Jerome Powell just last week opened the door to a re-acceleration to a 50 basis-point hike at the Fed’s March 21-22 meeting. Financial ructions may raise the bar for such a move, however.
Costs of Tightening
More broadly, SVB’s meltdown offered an illustration of the costs of the Fed’s most aggressive tightening campaign since the early 1980s. The lender had plowed money into longer-term bonds, the market values of which dropped as yields soared. Meantime, SVB’s funding costs surged as the Fed kept jacking up its benchmark rate.
“While the Fed wants tighter financial conditions to restrain aggregate demand, they don’t want that to occur in a non-linear fashion that can quickly spiral out of control,” Michael Feroli, chief US economist at JPMorgan Chase & Co., wrote in a note to clients. “If they indeed have used the right tool to address financial contagion risks (time will tell), then they can also use the right tool to continue to address inflation risks — higher interest rates.”
JPMorgan retained its forecast for a quarter-point rate hike by the Fed in March.
In Powell’s two days of testimony before Congress last week, SVB didn’t come up once — speaking to the suddenness of the collapse. It is the second-largest US bank failure in history behind Washington Mutual in 2008. It followed a frenetic couple of days where its long-established customer base of tech startups yanked deposits.
Treasury Secretary Janet Yellen said the actions taken Sunday will protect “all depositors,” signalling aid to those whose accounts exceed the typical $250,000 threshold for FDIC insurance.
Fed officials said on a briefing call that their new facility will be big enough to protect uninsured deposits in the wider US banking system. It was invoked under the Fed’s emergency authority allowing for the establishment of a broad-based program under “unusual and exigent circumstances,” which requires Treasury approval.
The Treasury will “make available up to $25 billion from the Exchange Stabilization Fund as a backstop” for the bank funding program but the Fed doesn’t expect to draw on the funds, it said.
Under the new program, which provides loans of up to one year, collateral will be valued at par, or 100 cents on the dollar. That means banks can get bigger loans than usual for securities that are worth less than that — such as Treasuries that have declined in value as the Fed raised interest rates.
Normally, under the Fed’s main lending program, known as the discount window, the Fed typically lends money at a discount against the assets provided as collateral, a practice known as haircuts. The Fed said the loans under the discount window, which are up to 90 days, will now be subject to the same collateral margins as the new bank funding facility.
The Fed’s emergency lending program is “an admission not only of systemic risk but that the risks are so unusual and exigent that failure to invoke this liquidity could create a financial crisis,” said Peter Conti-Brown, associate professor at the University of Pennsylvania’s Wharton School.