Federal Reserve Chairman Jerome Powell and his open market committee left the only interest rate they control unchanged on November 1st. Everything is okey dokey, soft landing in process.
After the announcement and brief remarks by Mr. Powell the Q & A began with a room full of Fed following financial journalists, er leakers. Beyond the usual fluff questions, Jonnelle Marte from Bloomberg concluded her question with, “Also, do you think that those higher yields could affect banking stress?”
MR. POWELL responded with a word salad which included, “We do think the banking system is quite resilient. We had, you know, a handful of bank failures, but—so, that’s what we’re out there doing. And we don’t have any reason to think that this—that these rate hikes are materially changing that picture, which is one of a strong banking system and one where there’s a strong focus by banks and by supervisors on liquidity, on funding, and those sorts of things.”
A few minutes later Simon Rabinovitch with The Economist, threw this curveball at Powell. “Quick follow up to the question about banking stresses. You talked about how the banking system is resilient. Of course, part of the resilience of the past year stems from the Bank Term Funding Program that you launched in March. Given that bond prices have not recovered, that unrealized losses are probably mounting, how likely is it that you might have to extend that program in March next year?”
Whoops. At least one reporter, Rabinovitch, was paying attention and didn’t let the “quite resilient” Powell blah blah go by unnoticed.
Powell didn’t even try pulling up his pants, saying, “Good question. We haven’t really—we haven’t really been thinking about that yet. We—you know, it’s November 1, and that’s a decision we’ll be making in the first quarter of next year.”
The Bank Term Funding Program stopped this year’s spat of spring bank failures from becoming a full-blown financial contagion. Banks can use the facility to borrow at 100% of par value against their underwater bond portfolios. Like every government intervention it’s supposed to be a short-term thing that is to be sunsetted this fast-approaching March.
Type Bank Term Funding Program into the St. Louis Fed’s FRED chart maker and a hockey stick appears.
On March 8, 2023, zero had been borrowed from BTFP. Two weeks later just short of $74 billion had been disbursed to illiquid banks. On the date of Rabinovitch’s question, $109 billion. Dr. Komal Sri-Kumar, President of Sri-Kumar Global Strategies, Inc., told Maggie Lake on Real Vision, that the BTFP “essentially Bailed out the banking system.” While Treasury Secretary Janet Yellen and Powell both say the banking system is sound, “the fact that they needed [a bailout] shows that it is not sound.” And since March, rates have increased. If that was the problem then, it’s a bigger problem now. “These banks are in more trouble today than they were in March,” Sri-Kumar said.
Bank analyst Chris Whalen told Jack Farley on Farley’s “Forward Guidance” podcast that the banking system is “on a knife’s edge.” He believes the Term Funding facility will end, but must be replaced by another program to fund these low-coupon legacy assets. He rightly points out that Banks are leveraged at 15-1, so mistakes lead to failures very quickly. If the government lets them. Whalen wonders if the folks at the Fed are going to “destroy the world” to prove they are right, ie. keep the interest rate it controls where it is or raise it with the result being more bank failures.
Who knows? Don’t rush the Fed Chair, he will get to it in the first quarter.
