Who’s winning the Fed’s hiking cycle?
Nobody really, but some of the losing is fun to watch
Here’s our latest on the unfolding maybe-crisis and how central bankers are responding -- it’ll take 8 minutes to read. If you like it, please follow us on Twitter and consider subscribing!
Wednesday’s meeting of the Federal Open Market Committee (FOMC) was the first time in more than a year that any real ambiguity existed about how the Fed would address interest rates. Markets bet on another quarter-point increase in the Fed funds rate, but many investors thought that this month’s banking “crisis” could prompt a pause in the hiking cycle that began last March.
In the end, Chairman Jerome Powell and company tried to have it both ways: continuing the fight against inflation with that quarter-point boost, but adjusting language in the committee’s closely watched public statements to sound more “dovish” about the future.
Like most compromises, the moves seemed to leave everyone unhappy, which raises the question: who is winning and who is losing from present policy? The answer has some unhappy familiar shapes, but a few silver linings for those who enjoy watching the mega-wealthy sweat.
First and most obvious, working people and the poor continue to lose. This is especially true for the Global South, still reeling from the last Fed fight against inflation 40 years ago. The “Volcker Shock” -- named for then-Fed Chair Paul Volcker -- crushed 1970s-era inflation with enormous interest rate increases, and led to the Third World debt crisis. These countries have arguably never fully recovered.
Now a new crisis has prompted riots, hyperinflation, and humanitarian disasters in Lebanon, Iraq, Egypt, Argentina, Sri Lanka, and elsewhere. At least 50 states around the world risk defaulting on their debt -- with Wall Street punishment sure to follow. The last crisis prevented them from building self-sufficient industrial economies and forced them to accept trade agreements which forbid capital controls. Now borrowing dollars to buy the industrial products they need has become dramatically more expensive, even as they struggle to protect their currencies against a rapidly appreciating dollar. Billions of people stand to lose what little they have thanks to the Fed’s hawkishness.
As for workers in rich countries, we’ve covered this before: the policy is explicitly intended to push down wages and “cool off” the “overheated” labor market. But as it stands, the policy has failed to do much to the labor market outside high-tech jobs -- relative good news for other workers, for now -- while also leaving inflation high, a loss in real wages.
And this highlights another category of losers right now, one whose suffering eases the pain the rest of us may be feeling: tech billionaires and the stock touts who profited from their inflated rise.
You could see their frustration after the Fed’s move yesterday. Elon Musk warned of future pain for banks, tech investment fund guru Kathie Wood laid out all the reasons she thought the Fed should pause, and venture capitalist David Sacks tweeted ominous idioms. Behind all of the hand-wringing is the sharp downward revaluation of their investments as zero-cost capital has dried up and investors have begun to expect profits again.
Markets have hoped for months that central banks might reverse course any day now, throwing tantrums every time the economy looked strong enough to discourage such a change. This week the FOMC not only kept the course in the face of recent high-profile bank failures, but not one committee member predicted any rate cuts in 2023. They opened the door for a pause with softened language -- they called for “additional policy firming” instead of “ongoing increases” -- but Silicon Valley’s woes did little to shift the bank’s priorities.
Even the current banking “crisis” is beginning to look like little more than another consequence of profitless tech overeating in the ZIRP (zero interest rate policy) years. To date, five U.S. banks and one Swiss bank have failed or needed some sort of rescue:
Two of them, Signature Bank and Silvergate Bank, were heavily tied to cryptocurrency, a worthless “asset” class hammered by the end of free capital.
Silicon Valley Bank (SVB) was the preferred bank for venture-backed tech companies, once serving half of them.
First Republic Bank -- still alive but seeking a government-backed bailout -- competed with SVB for Silicon Valley tech wealth.
PacWest Bank announced yesterday a new $1.4 billion line of credit following a 20% deposit drawdown and $16.3 billion in other borrowing. The bank also specializes in venture-backed business, responsible for 72% of its deposit outflow.
Credit Suisse’s problems began long before the current episode with major losses in recent scandals, including $5.5 billion to Cathie Wood pal Bill Hwang in 2021.
Banks everywhere are losing deposits right now to money market funds -- investment vehicles that mimic the liquidity of cash while still creating some minimal yield for their investors. And banks face difficulty in raising deposit rates to compete with the funds as the Fed’s rate policy has inverted the yield curve: short-term debt has higher interest rates than longer-term debt, a reversal from normal patterns.
Banks make their money by borrowing from depositors at the short end of the curve and lending at the long end, pocketing the difference. Right now there isn’t a difference, making them yet another loser from the rate hikes.
But so far the fallout is mostly concentrated where all the pain has been -- in the very sectors of the economy that made out like bandits when the Fed was keeping rates artificially low. It looks like Powell is betting that the economy can afford to lose businesses that only ever lost money.
He has been wrong about everything else so far, but if it works, watching it go down will be a little win for us all.
Our only investment advice: Appreciate great art wherever you find it.
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