Global (Monetary) Tightening Crises (GTC) - Lessons from SVB, Silvergate & Signature
Global (Monetary) Tightening Crises (GTC) - Lessons from SVB, Silvergate & Signature
It is happening. Fed was wrong to initially assume that inflation is transitory. Learning from the mistake, Fed is taking it too seriously to rein in inflation (second mistake?). In pursuit, everyone is following Uncle Sam. Cheers for Fed have (wrongly) nudged the peak interest rates to 6%. Too much, too soon.
Consequences of such tightening are untested & unprecedented. The risky assets - equities, EM currencies, cryptos, commodities & corporate bonds - are reeling from the impact, as pain gets visible. Entire financial system have felt tremors. What went wrong with SVB?
As 16th largest US Bank, SVB had more than USD 200b in deposits & its collapse is biggest since Washington Mutual's in 2008. Once a pride of Silicon Valley, bank was darling with strong deposit growth but had parked many of the funds in long-term bonds.
With steep monetary tightening, SVB had to incur marked to market losses when depositors called for money to be repaid. Simply put, the investors equity wasn't enough to cater to market concerns as deposits rushed concurrently. Equity injection news wasn't enough to allay concerns. Too little, too late.
The UK arm being sold to HSBC UK for a pound is symbolic but timely. Bank has gone into receivership over the weekend as regulators worked overtime to ascertain the path forward. Fed has had to pause to rethink, even if the monetary tightening doesn't. Corporate defaults are imminent.
Global watchdogs need to immediately engage with their financial system to stress test. While retail depositors upto USD 250k are insured, run on bank can be lethal as unrealised losses mount USD 600B by end 2022. Central Banks should forecast the unrealised losses today when interest rates peak out and increase capital buffers.
The real dilemma for Fed and central banks is the path of tightening. Calls to pause tightening are increasing this week. By last week Fed was supposed to go on a 50 bps tightening spree. If Fed goes slow, inflation may not be reined in. Barring disruption to semiconductor market in case of China-Taiwan conflict. If Fed tightens, many more defaults would prop up.
Policy makers should be wary of the self fulfilling prophecies. Fear of recession and defaults would bring commodity prices down and flatten the yield curve. If long term bonds are sold to de-risk maturity profile, yields would get higher. Short term bills may not be quite attractive anymore. Hence, everyone should go back to number crunching the risks.
For Pakistan, there is a lesson. Such high interest rates & currency depreciation rate has impacted long-term solvency of various businesses. With low ADRs and informal economy, this is a lesser concern. Regulator is better off asking for cushions if PIB yields go higher. Govt is exposed to refinance risks, better be careful.