AMELIA ISLAND, Florida (Reuters) – The pain taken by banks’ bond portfolios during more than a year of rising interest rates raised concerns this spring after the Silicon Valley meltdown Bank that a rapidly growing financial crisis could develop and collapse the US economy.
New research, however, indicates that those investment losses – most of them unrealized – were offset almost dollar for dollar by the benefits of cheap deposits that kept the central bank’s operating margins stable.
In the opinion of Philipp Schnabl, a professor at the Business School of the University of New York and the author of the study, it was evidence that the fears about an imminent financial crack may be exaggerated.
But it also adds to a growing set of indicators that Federal Reserve officials and economists cite as reasons the current economic cycle may defy historical norms and continue to outperform expectations as it defies easy predictions. another.
From the labor market to consumer behavior to the financial sector, officials and economists at an Atlanta Fed conference on Amelia Island, Florida this week laid out a variety of ways in which the economy is behaving in a different way than before. In conference proceedings and separate interviews, they spoke of an economy that is holding up better than expected in the face of rising borrowing costs and that it can still weather a bout of high inflation without a major collapse.
“There are a lot of things about this inflation that we’re still trying to understand,” said Chicago Fed President Austan Goolsbee during a forum at the conference. “The breakdown of ‘immaculate disinflation’ is a mistake because there was a large component that was ‘immaculate inflation'” driven by supply-side shocks and others that were unique to the COVID-19 pandemic.
The reduction of those influences “gives us some potential to have a ‘soft landing’ of a form that is definitely unusual,” Goolsbee said, referring to a scenario in which monetary tightening slows the economy, and the -inflation, without triggering a recession.
‘I WAS THE STORY’
Debate about how much damage, if any, rate hikes by the US central bank could do to the labor market and economic growth to get inflation under control has been intense at times.
Veteran policymakers, such as former Treasury Secretary Larry Summers and Nobel Prize in Economics winner Joseph Stiglitz, took almost opposite views: Summers said unemployment would need to rise significantly to inflation dies, and Stiglitz outlines why the pandemic makes this time different.
The risks are central to the Fed’s debate over whether to stop or continue rate hikes, and the outcome is far from settled. Schnabl’s study, for example, leaves open the possibility that bank metrics can change rapidly as deposits become more expensive.
Just how it plays out could shape a 2024 US presidential election that could either take place under the office-killing shadow of rising unemployment and high inflation, or the bluer skies of a stock market strong work and reasonably stable prices.
Research on past periods of high inflation indicates that it can take a recession to regain control. Fed President Jerome Powell acknowledged in a recent press conference that some of the best results hoped for by the central bank “will be against history.”
Yet rooted in a once-in-a-century health crisis and the government’s unprecedented response to it, some argue that the abnormal start to inflation in 2021 could allow for an abnormal resolution.
‘CLEAR SIGNS OF IMPROVEMENT’
In light of the “optimistic side” of an economic forecasting community that is very much expecting a recession, Jan Hatzius, chief economist at Goldman Sachs, said during a panel presentation on Amelia Island that his expectation is ” the economy continues to expand even with inflation subsidy. .”
The bank credit crisis, said Hatzius, is real but expected to reduce only about four tenths of a percentage point from economic growth, which is projected recently will still reach 1.6% above consensus this year.
At the same time, he said that the labor market is showing an “unprecedented” break from past behavior with a steady decrease in job openings without any increase in the unemployment rate.
Inflation is “starting to see clear signs of improvement,” Hatzius said, with a set of “exceptionally benign” changes creating a gradually softer labor market even with a low unemployment rate of 3.4%.
The big unknown is whether that continued labor market strength is consistent with inflation steadily falling from its current levels above 4% back to the 2% target of Fed.
SPARING THE FRONT LINES
Richmond Fed President Thomas Barkin, in an interview with Reuters, said that in revising his forecast for this year he included both slower economic growth and a lower unemployment rate than he had anticipated initially, an unusual combination.
The layoffs that appear to be ongoing, he said, suggest that job losses are concentrated in white-collar occupations among people who are more able to sustain spending or even take a break from work, while hiring continue in the frontline service jobs most devastated by the pandemic.
“You’re not seeing front-line people being fired. You’re seeing professionals being fired,” said Barkin, a group he feels is less likely to file unemployment claims and more likely to take time off for more training or others. activities.
This could allow the labor market to cool without an increase in unemployment as may be the case.
Economists and policy makers at this week’s conference pointed to other factors that add to the case for a soft landing.
Industries such as construction that usually take a hit as housing declines have seen jobs hold as construction turns to public sector and infrastructure projects. Households still have perhaps $500 billion of pandemic-era savings, their leverage is low and cash flow has improved through mortgage refinancing when interest rates were at -less record, savings that can support spending now.
Even policymakers who see a soft landing path aren’t sure they can navigate it or that shocks from bank credit or other parts of the economy won’t ultimately cause the recession they hope to avoid.
But at this point the “uncertainty” about what is working in the economy can, some officials feel, hide developments that are working in their favor.
“The dynamics that we have today are really idiosyncratic and it means that we have strength in parts of the economy that you don’t normally have when we’re in this part of a policy cycle,” said the Fed President of Atlanta Raphael Bostic in his words. an appearance with Goolsbee. “That’s why I have some confidence … we can see inflation return to our target without having the typically large level of disruption.”
(Reporting by Howard Schneider; Editing by Dan Burns and Paul Simao)
By Howard Schneider
