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"There's a saying that the Federal Reserve raises interest rates until something breaks." Last week, two major banks broke, said Nick Timiraos in The Wall Street Journal. Now the question becomes whether the Fed has gone far enough. The central bank "raises rates to fight inflation by slowing the economy through tighter financial conditions." But the effects of interest rate changes build up slowly in a way that "can be akin to getting ketchup out of a glass bottle: Smacking the bottle repeatedly leads to no results, then too much of the condiment pours out." Silicon Valley Bank and New York's Signature Bank appear to have been casualties of a condiment explosion. The value of the bonds SVB was holding — and the cryptocurrencies that Signature Bank was holding — deteriorated as rates rose. Last week, Fed chair Jerome Powell "floated the possibility of a larger rate increase at this month's meeting," but this may force him to reconsider.
Enough is enough, said Jeffrey Sonnenfeld in Fortune. By executing the steepest rate-hike campaign since the 1980s, the Fed is "oversteering the economy not just off the highway but right off a cliff." The Fed is "so wounded for being late and dismissive over inflation in 2021 that it's still fighting the last war" and ignoring evidence that prices are falling across the economy — from housing to commodities. Continued tightening of monetary policy "is a surefire recipe for disaster."
The stock market doesn't see disaster here, said John Authers in Bloomberg. In fact, except for some mid-tier regional banks, investors have "taken this incident in stride." Meanwhile, inflation hasn't disappeared. For the Fed to give up the fight against inflation "could provoke another melt-up," with investors betting the days of easy money are back. Barring further shocks before its March meeting, the Fed should continue with its plans to hike rates — probably by a moderate 25 basis points. In a perverse way, the banking blowout may make the Fed's job easier, said Eric Levitz in New York magazine. The banking shock "might do more to tighten credit conditions — and thus cool spending and investment — than the Fed's previously planned rate hikes would have done." Depositors are pulling money from banks, which are simultaneously tightening their own wallets by restricting access to credit. "Breaking banks probably isn't the best way to reduce inflation, but it is one way to cool off an economy."
The inflation picture is still very murky, said Paul Krugman in The New York Times. For instance, "official measures of job openings show an extremely hot labor market, but private-sector measures show significant cooling." Why the discrepancy? "A rising number of U.S. businesses just aren't responding to government surveys." Another problem is that statistical agencies keep making large revisions to older data, undercutting the validity of the current data they are promoting. This genuinely confusing situation is not something that "a clash of egos is going to clear away." The Fed is trying to navigate "through a dense data fog, and this suggests to me that it should avoid drastic moves in either direction."
This article was first published in the latest issue of The Week magazine. If you want to read more like it, you can try six risk-free issues of the magazine here.