The failure of Silicon Valley Bank (SVB) has had a dramatic impact on financial markets. Banks across the world, including some of the biggest and best capitalised have seen their share prices hit. Other share prices fell too with the S&P 500 down 4.5% and European indices 2-3% lower last week. Credit spreads widened, especially in the US. Markets once again began to price in a pivot by the Federal Reserve with expectations for the funds rate at year end falling by a remarkable 0.8 percentage points over the week. The mighty dollar weakened.
This is a fast moving story. The UK subsidiary of SVB has been taken over by HSBC for just £1 which would seem to have insulated the UK from any direct fall out. Nonetheless bank shares in London still opened 4% lower on Monday morning.
Meanwhile, another US bank is in difficulty and the US authorities have taken bold action to provide banks with liquidity. My guess is that moves by the US authorities will limit the damage and avoid systemic effects. But credit conditions have been tightened and this week’s US economic data should provide further support to those who think Federal Reserve (Fed) tightening has gone far enough. Consumer Prices Index (CPI) data should see a fall in both headline and core inflation, retail sales are likely to fall month on month and housing data could highlight the recession in that sector. US employment data last Friday showed another healthy rise in the number of jobs but wage inflation was muted and the total amount of hours worked fell.
I have long held the view that the US needs a recession to get inflation down sustainably to the 2% target. It should be mild and brief but would involve a significant rise in unemployment. Although the events of last week and data due this week suggest that we are closer to that, I suspect that more needs to be done. Markets will wait anxiously for next week’s decision by the Federal Open Market Committee (FOMC), the US Fed’s rate-setting committee. A rate hike of 0.25% would be taken as a sign that the Fed think their hiking cycle is close to an end. Goldman Sachs have forecast no increase at all – that’s a big change of view. If the Fed went ahead with a rise of 0.5% – which seemed a distinct possibility just a week ago, markets could be seriously rattled. We won’t get any clues from Fed speakers as they are in a blackout period, so it’ll be a nervous wait.
Meanwhile in the UK we have a budget which should see forecasts of a dramatic fall in inflation to 3% by Christmas with a cancellation of recession forecasts. A similar pattern is likely in Europe where an improvement in consumer confidence should see spending increase as energy bills fall. To be clear, we are not set for a boom and the UK in particular faces a further fall in house prices. But the news flow on this side of the Atlantic is improving in contrast to the US.