Banks Might Be About to Ruin the Economy Again

Time ^ | 3/22/23

[EBH]

Just about anyone whose job it is to pay attention to financial news should have known that interest rates would go up over the course of the last year.

A year ago, when the Federal Reserve raised interest rates for the first time in three years to combat inflation, it said that the banking industry should expect “ongoing increases,” and by September, the Fed projected that it wouldn’t stop heightening rates until they topped 4.5%—from near zero in early 2022. The Fed did what was largely predicted March 22, when it announced it would raise interest rates by 25 basis points, pushing them to the range of 4.75% to 5%.

The people running Silicon Valley Bank (SVB) did not understand that this was coming, since the bank stowed its deposits in U.S. government bonds. The value of older government bonds plummets as the Fed raises interest rates, because new bonds pay out more as interest rates grow. But SVB kept its deposits in government bonds, despite warnings from the Federal Reserve that it might not be able to come up with enough cash in a crisis.

Now, forecasters are warning of a potential recession from this extremely avoidable banking crisis.

The idea that banking mistakes could plunge the U.S. economy into a recession is familiar—the Great Recession that began in 2007 was caused when banks made risky home loans and then sold to lenders who did not understand exactly what they were buying. Indeed, the current banking crisis has some parallels to 2008, says Neil Fligstein, a sociologist at the University of California, Berkeley who has extensively studied the financial crisis.

[lepton]

cause the value of long-term bonds to decline precipitously.

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I think this is an improved wording, but there is a technical term for this.

cause the premature sale value of long-term bonds to decline precipitously.

[lepton]

It’s not only duration, but the proportions of the bank investments subject to this, as well as the disposition of many other investments.

This was a very oddly structured bank, from the viewpoint of its customers, its active investments, and its bond investments.