To The Moon

On Thursday, 11 U.S. banks led by $JPMorgan Chase(JPM)$ , $Bank of America(BAC)$ , and $Citigroup(C)$ banded together to inject $30 billion in uninsured deposits into stumbling lender $First Republic Bank(FRC)$ .

Fears of a global banking crisis have eased following the rollout of multi-billion-dollar lifelines for troubled lenders in Europe and the United States. Stocks rose in China, Japan, South Korea, Malaysia, Australia, the Philippines and Hong Kong on Friday: 

China’s blue-chip index gained 0.8%, while $HSI(HSI)$ jumped 1.2%. The MSCI Asia Pacific Financials index climbing as much as 0.4 % after earlier losses.

Japanese banks including $Mitsubishi UFJ Financial Group, Inc.(MBFJF)$ and $Sumitomo Mitsui Financial Group Inc.(SMFNF)$ were among the big gainers, rising by as much as 2%.

Source: https://www.alamy.com/

1. Banking Crisis Is over?

Alicia García-Herrero, chief economist for the Asia Pacific at Natixis in Hong Kong, told to Al Jazeera:

“I would say all in all, I don’t think we’ve averted a crisis, to be frank, I think it’s too early to say, but what I know is that especially the Fed, and I would say the Swiss National Bank, have reacted very quickly. "

Carlos Casanova, senior economist for Asia at UBP in Hong Kong, told to Al Jazeera,

“Expectations that a financial crisis has been averted, at least for now, has exerted downside pressure on yields and depreciated the US dollar.”

Brian Levitt, a global strategist at Invesco, told to Ruters:

"the market is focusing on smaller banks with specialty lending businesses. investors turned their attention to the next bank exposed to interest rate and specific credit risks."

Who is next: After SIVB, SBNY, Who is Next, ZION, TFC, FRC, KEY or $RF?

“First Republic Bank, which has significant exposure to the coastal real estate markets, appears to be next on the list,” he said.

Dick Bove at OG banking analyst, who rose to fame with his bold calls at the height of the 2008-2009 crisis:

"I think that the near-term banking crisis is definitely over, if you go back in history, you know that time before the Fed was formed, that's what was done to preserve stability in the banking industry,"

Bove explained:

"The banks would come together and basically share funds and bail out the problem company. The big event in 1907, which ultimately gave rise to the Fed, is when JP Morgan supposedly got all the bankers in his house, locked the doors, and said you can't leave until you solve this banking crisis. And they solved it. And so we're seeing it happen again. And it works."

2. Kroll: "We are not in a banking crisis"

Source from Kroll, the leading independent provider of risk and financial advisory solutions: Welcome to read Full Link 

Summary: The financial instability we have witnessed over the past week in the U.S. and Europe has been limited to idiosyncratic cases. We face a problem of liquidity (whether banks have the cash to meet demands from customers and counterparties) rather than solvency (when the value of the loans on bank balance sheets is called into question).

It was reminded recently by a note put out by JPMorgan that we have a saying in economics:

“Whenever the Fed hits the brakes, someone goes through the windshield.” It’s possible that $Silvergate Capital(SI)$ , $SVB Financial Group(SIVB)$ , $Signature Bank(SBNY)$ and now $Credit Suisse Group AG(CS)$ have all been sitting in the passenger seat.

While the failed U.S. lenders and CS are idiosyncratic, the overreaction of markets to developments feels very reminiscent of 2008 (to be clear, a lot is completely different from 2008—this is not a repeat of 2008). Bank runs are a question of psychology and Global Wall Street doesn’t seem to be in the mood to discern between idiosyncratic cases or between liquidity versus solvency problems. Just because we are not in a banking crisis does not mean we can’t land there in the end.

3. What does all of this mean for the economy and central banks?

1) Influences to Banks:

Financial instability will feed through into the real economy through two channels:

• One channel is confidence, which is very difficult to measure and predict. If everyone worries about a financial crisis and economic downturn, they will spend and invest less, the labor market will deteriorate and we could land in recession.
• The second channel is bank lending. If banks see deposits flee, their overall balance sheets will shrink, and they will extend fewer loans.

Small- and medium-sized banks in the U.S. will almost certainly face more regulation going forward and they may begin complying with anticipated regulatory changes immediately, reducing their profits and constraining their lending. Banks may also pull back on loans as they anticipate financial instability will be a drag on growth. According to JP Morgan and Goldman Sachs, a pullback in lending could shave 0.5-1 percentage points off U.S. GDP growth this year.

2) Influence Predict to US Economic

That is in line with my view that the U.S. will enter recession later 2023. But this isn’t necessarily a bad thing.Inflation came in surprisingly strong in February, with core services inflation and ex-housing accelerating on a monthly basis from January. Lower growth should take some heat off inflation. The Atlanta Fed’s GDP Now Index rose to 3.15% for the first quarter of 2023, which is well above potential growth of around 1.8%. This suggests that more demand destruction is necessary if the Fed is going to get inflation down to its 2% target.

3) How central banks react?

Central banks have distinct tools for financial stability issues (supervision and lender of last resort capabilities) and macroeconomic stability (rate moves and the balance sheet). Given growth is holding up better than expected in the U.S., UK and eurozone and inflation is stubbornly high in all three regions, central banks arguably should continue to hike rates as they had planned to a week ago while using financial stability tools to address wobbles in the banking sector. But financial and economic conditions are intertwined and so there is a chance they might be more dovish.

The European Central Bank (ECB) was the first central bank to have a rate setting meeting after $Credit Suisse Group AG(CS)$ came under pressure. It stayed the course with a 50-bps hike that it had signaled it would implement before the financial instability of the past week.

The Fed and Bank of England will meet next week as well. KROLL expect they will both hike interest rates by 25 bps, which was also my forecast before the recent banking wobbles. One week ago, the risk on the terminal Fed Funds in this hiking cycle rate (which I forecast at 5.5%) was overwhelmingly to the upside. Now the risk is more evenly balanced.

4) The differences between 2008

The failed U.S. regional lenders and CS are idiosyncratic cases, So far, we are still dealing with a liquidity crisis and there are tools that can be (and have been) deployed for liquidity squeezes. Moves in Treasury yields have been dramatic over the past few days, but this is not 2008 all over again.In 2008, banks were under-regulated and undercapitalized. Their asset quality was in question, generating a solvency crisis.

In summary:

The market overreactions we have seen in recent days raise the risk that investors will generate a full-blown banking crisis as a self-fulfilling prophecy. The recent instability will drag on loan growth and therefore economic growth. But with inflation stubbornly high in the U.S. and Europe and assuming a banking crisis does not materialize, this could be a feature and not a bug.