It’s been a busy week for central bank communications. Expanding on comments made a few days ago, outgoing New York Fed Chairman William Dudley spoke again on Wednesday about Federal Reserve policy. From observing his perspective, it is now clear that the bank is intending to respond to rising inflation by further increases in interest rates (rather than cutting them as a majority of analysts remain convinced will happen).
Inflation remains below our 2 percent objective. As long as that is true, the case for tightening policy more aggressively does not seem compelling.
Head of the Federal Reserve bank of Chicago, Charles Evans, followed on from Dudley with this remark:
We have a dual mandate that includes a symmetric 2 percent inflation objective. As long as we act to keep inflation within the symmetry envisioned, inflation expectations should be contained.
Dudley sees two leading risks to the threat of heightened inflation – trade tariffs and the federal budget. I would suggest that it is no coincidence that the dangers Dudley cites all stem from the Trump administration. The Fed and their gatekeepers in the media have successfully cultivated the narrative of an economic recovery over the past decade. The fact that this recovery was entirely predicated on 0% interest rates and quantitative easing measures is seldom given credence.
This view was reinforced in the IMF’s latest Global Financial Stability Report, where they publicly stated that financial vulnerabilities had ‘accumulated during years of extremely low rates‘.
As well as hinting at the future path of the Fed’s monetary policy, Dudley issued an explicit warning to community banks over the dangers of higher interest rates. According to him, these banks have taken on an extended level of risk by ‘increasing the maturity of their assets and the average duration of their loan portfolios.’ So as rates rise, the banks exposure to increased debt servicing costs will put them in jeopardy.
At present, the U.S. has four leading corporations in the banking sector – JP Morgan Chase, Citi Group, Wells Fargo and Bank of America. As evidenced by The Motley Fool website, these banks as they exist today are largely a product of mergers and acquisitions. To give a few examples:
- JPMorgan Chase and Bank of America were actually 35 separate companies in 1990.
- Citigroup was formed from two major financial corporations: Citicorp and Travelers Group, which merged in 1998 in a $140 billion deal. At the time, it was the largest corporate combination in history.
- Wells Fargo had some big deals in the ’90s, completing a merger with First Interstate in 1996 valued at $11.3 billion and another merger with Norwest in 1998 worth $31.7 billion.
- JPMorgan Chase, as its name implies, arrived at its current form from the 2000 purchase of J.P. Morgan by Chase Manhattan Bank for approximately $30 billion in stock. Then, in 2004 the bank purchased Bank One in a $58 billion deal that resulted in JPMorgan becoming the second largest bank in the U.S. at the time.
- Between 2004 and 2007, Bank of America bought FleetBoston Financial for $47 billion, credit card giant MBNA for $35 billion, U.S. Trust for $3.3 billion, and LaSalle Bank for $21 billion.
If Dudley’s warning to community banks is realised, there is a high probability that they will become increasingly susceptible to interest from the ‘Big Four‘ and end up being subsumed into their empire. The danger is that the leading names in the banking sector will grow in stature in the event of an economic downturn, further eroding any semblance of competition and choice that the market has to offer.
FT: BoE’s Carney says rate rise not certain in May
- Speaking to BBC News on the sidelines of the IMF spring meetings in Washington, the Bank of England governor said that interest rates were still likely to rise gradually this year, but softer data had given the Monetary Policy Committee pause for thought. It was now “conscious that there are other meetings over the course of this year” when it can consider rates.
- “We have had some mixed data,” Mr Carney said. “On the softer side some of the business surveys have come off. Retail sales have been a bit softer — we are all aware of the squeeze that is going on in the high street. “I am sure there will be some differences of view but it is a view we will take in early May, conscious that there are other meetings over the course of this year,” he said.
Reuters: Fed’s Dudley sees ‘slightly restrictive’ U.S. monetary policy on horizon
- New York Fed President William Dudley said he was among the U.S. central bankers last month to mark up forecasts that show the policy rate rising to about 3.4 percent by 2020, a full half a percentage point above the current estimate of “neutral.” Dudley himself said he marked up his estimate of neutral to around 3 percent.
- “A gradual path of interest rate increases remains appropriate,” Dudley said at Lehman College in the Bronx. “Even though the unemployment rate is low, inflation remains below our 2 percent objective. As long as that is true, the case for tightening policy more aggressively does not seem compelling.
- Still he added that the Fed “should not overstay its welcome” and keep pushing rates toward neutral.
Reuters: UK retail sales slide in first-quarter after March snow
- Unusually cold and snowy weather caused retail sales volumes to drop by 1.2 percent compared with the month before, the Office for National Statistics said, a bigger fall than most economists polled by Reuters had expected.
- Looking at the quarter as whole, sales dropped by 0.5 percent compared with the final three months of 2017 – the biggest fall since Q1 2017. The ONS said this was likely to lop 0.03 percentage points off first-quarter GDP growth, which other analysts forecast at around 0.3 percent.
Bloomberg: IMF Warns of Rising Threats to Global Financial System
- Downside risks to world financial stability have increased “somewhat” over the past six months, the IMF said Wednesday in the latest edition of its Global Financial Stability Report. “Financial vulnerabilities, which have accumulated during years of extremely low rates and volatility, could make the road ahead bumpy and could put growth at risk.”
- “Valuations of risky assets are still stretched, with some late-stage credit cycle dynamics emerging, reminiscent of the pre-crisis period,” it said. “This makes markets exposed to a sharp tightening in financial conditions, which could lead to a sudden unwinding of risk premiums and a repricing of risky assets.”
Reuters: Fed’s Dudley warns small banks to rethink risks of higher rates
- “We have observed that some community banks have taken on more interest-rate risk by increasing the maturity of their assets and the average duration of their loan portfolios,” he said in prepared remarks to a banking conference.
- “It will be important for community banks that are very sensitive to interest rate risk to evaluate the risk management of their loan portfolios,” Dudley added.
Reuters: Surprise inflation drop muddies outlook for interest rates
- British inflation unexpectedly cooled to a one-year low in March, calling into question whether the Bank of England will raise interest rates more than once before the end of the year.
- Official data on Wednesday showed annual consumer price inflation fell to 2.5 percent from 2.7 percent in February.
CNBC: Debt could dissuade students, hurt US economy, says Fed official
- “I am concerned that the looming shadow of student debt, coupled with increasing uncertainty about loan forgiveness programs and income-driven repayment, may dissuade some potential students, particularly those from low- and middle-income families, from going to college,” Harker said in prepared remarks.
- “If the ability of our younger generations to participate in the economy is adversely affected, so, overall, is our economy,” he added at Saint Joseph’s University in Philadelphia.
CNBC: Fed’s Evans backs ‘patiently’ raising interest rates in absence of inflation
- “I think we have the opportunity to more patiently read — and react to — the incoming data,” Evans said at a speech in Chicago. “That is, I think we can undertake more moderate monetary policy adjustments today than often was the case in the past.”
- “We have a dual mandate that includes a symmetric 2 percent inflation objective. As long as we act to keep inflation within the symmetry envisioned, inflation expectations should be contained.”
Sky News: Store closures loom as House of Fraser drafts in advisers
- The struggling department store chain House of Fraser (HoF) has drafted in advisers to examine options for accelerating its restructuring, raising the prospect of further shop closures at a dire time for the British high street.
- Sky News has learnt that KPMG has been asked by the Chinese-owned company to explore the possibility of a formal process called a Company Voluntary Arrangement (CVA), months after it informally asked store landlords to agree to big rent cuts.
Sky News: Debenhams half-year profits slump by 85%
- Debenhams has reported an 85% slump in half-year profits after sales were battered by the Beast from the East and heavy restructuring costs also took their toll.
- Pre-tax profits for the 26 weeks to 3 March collapsed to £13.5m compared to £87.8m in the same period last year, with like-for-like sales down 2.2%.
- The profits slump was also partly due to one-off shake-up costs of £28.7m – though even stripping these out they were still down by half.
Bloomberg: The Retail Real Estate Glut Is Getting Worse
- At last count, U.S. store closures announced this year reached a staggering 77 million square feet, according to data on national and regional chains compiled by CoStar Group Inc. That means retailers are well on their way to surpassing the record 105 million square feet announced for closure in all of 2017. And with shifts to internet shopping and retailer debt woes continuing, there’s no indication the shakeout will end anytime soon.
Christine Lagarde: An Even-handed Approach to Crypto-Assets
- If privately issued crypto-assets remain risky and unstable, there may be demand for central banks to provide digital forms of money
- The underlying technology of crypto-assets—distributed ledger technology, or DLT—could help financial markets function more efficiently.
- Before crypto-assets can transform financial activity in a meaningful and lasting way, they must earn the confidence and support of consumers and authorities. An important initial step will be to reach a consensus within the global regulatory community on the role crypto-assets should play. Because crypto-assets know no boundaries, international cooperation will be essential.
Steven Guinness 