Fed stresses vigilance on credit as rate views scaled back

Federal Reserve policymakers scaled back their expectations for rate hikes this year after a series of bank collapses roiled markets last month, and stressed they would remain vigilant for the potential of a credit crunch to further slow the economy, a record of the meeting showed.

“Many participants noted that the likely effects of recent banking-sector developments on economic activity and inflation had led them to lower their assessments of the federal funds rate target range that would be sufficiently restrictive,” according to minutes of the March 21-22 Federal Open Market Committee gathering, released in Washington Wednesday.

The minutes back up Chair Jerome Powell’s remarks during his post-meeting press conference that the decision to hike rates was broadly supported by his colleagues, with all officials backing such a move.

At the same time, the release indicates policymakers were less than fully committed to another move in May, as they saw the need to assess incoming data on how the bank turmoil was impacting the economy.

Several officials “emphasized the need to retain flexibility and optionality in determining the appropriate stance of monetary policy given the highly uncertain economic outlook,” the minutes said.

Before the banking crisis, incoming data since the Fed’s December meeting had led many policymakers to see a rate path that was “somewhat higher” than their earlier forecast, according to the minutes. After the failure of Silicon Valley Bank and Signature Bank days before the March meeting, officials revised their outlook back in line with projections submitted late last year.

U.S. stocks remained higher, 10-year Treasury yields were little changed and the dollar was lower after the minutes were released.

With inflation far above the 2% target and unemployment low, U.S. central bankers raised their benchmark lending rate a quarter point to a range of 4.75% to 5% and said “some additional policy firming may be appropriate” in their statement.

Several officials said they had considered whether to hold rates steady in March, given the uncertainty in the banking sector, but said stabilizing actions by the Fed and other government officials had helped ease financial stress.

Some other officials said they had considered returning to a bigger rate hike before the bank turmoil, following disappointing data showing slower-than-expected progress on inflation.

The Fed staff, however, said it was now including a “mild recession” starting later this year “given their assessment of the potential economic effects of the recent banking-sector developments.” Fed officials said they saw risks to economic activity as weighted to the downside.

Officials, meeting less than two weeks after the March 10 closure of Silicon Valley Bank, were forced to balance their fight to cool price pressures with the imperative of ensuring financial stability.

The largest bank failure in more than a decade was followed two days later by the collapse of Signature Bank. The Fed launched an emergency lending program over that weekend to boost confidence in the wider banking system.

Powell, speaking March 22, called SVB an “outlier,” for its reliance on uninsured deposits and exposure to rate risk on its bond holdings. But he also acknowledged it was hard to know how much fallout the economy would suffer due to tighter credit conditions.

Signals on financial stability since then have been mixed. Bank lending retreated in the second half of March, while demand for backstop lending from the Fed has eased somewhat after an initial surge.

That’s encouraged some officials to look past the turmoil caused by SVB, with St. Louis Fed President James Bullard saying last week that financial stress had “abated,” and that it was “a good moment to continue to fight inflation.”

New York Fed President John Williams said Tuesday the median estimate of one more hike in officials’ March forecasts is a “reasonable starting place.”

Chicago Fed President Austan Goolsbee, who votes on policy decisions this year, struck a different note this week, calling for “prudence and patience” in assessing the economic impact of tighter credit conditions that are likely to stem from financial stress.

San Francisco Fed President Mary Daly, who isn’t a voter, said Wednesday the economy may be able to slow enough to cool inflation without further rate hikes.

Policymakers last month forecast rates reaching 5.1% this year, implying one more quarter-point increase, according to their median projection. Seven of the 18 officials saw rates going higher than that to cool price pressures.

Data released earlier on Wednesday showed consumer prices hinting at a moderation in March, with the core consumer price index — which excludes food and energy — rising 0.4% from the prior month following a 0.5% gain.

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