Crisis lessons for U.S. Federal Reserve as Powell waits to find out why banks collapsed

Crisis is a great teacher for central bankers and for the rest of us.

Canadians who thought money was an unchanging unit for earning, saving and spending learned their lesson from a year of inflation.

And anyone who thoughtbanks were glorified instant teller machines certainly learned something over the last two weeksas they watched contagion fromthe disintegratingSilicon Valley Bank(SVB) help bring downSwiss bankinggiantCredit Suisse.

Just over a year ago, the world's most powerful central banker, U.S. Federal Reserve chair Jerome Powell, admitted that inflation caught him by surprise. On Wednesday, Powell said he still had a lot to understand about why and how those banks collapsedandthe effect on inflation and the economy.

"We are committed to learning the lessons from this episode and how to prevent events like this from happening again," Powell told reporters at the central bank'smonetary policy news conference.

And there is plenty more to learn about the impact of those events and whenthe disruption will beover. TheFed chair said that as banks restrain their own lending to try to prevent themselves from getting into trouble, ordinary people are going to feel the effects including making it harder for them to get loans and a slowing down of economic growth.

"Events in the banking system over the past two weeks are likely to result in tighter credit conditions for households and businesses, which would in turn affect economic outcomes," Powell said. "It is too soon to determine the extent of these effects and therefore too soon to tell how monetary policy should respond."

Didn't see it coming

One monetary policy response was for the central bank to pare its rate hike to a quarter-point instead of the half-point increase expected early this month.

Only days before SVB crumbled, Powell had testified to Congress that the Fed would likely have to raise rates higher and faster to fight rising prices clear evidence he did not see the banking turmoil and its disruptive effectscoming.

The change takes U.S. central bank rates into the 4.75 to fiveper cent range. That compares withthe Bank of Canada's Canadian policy rate target of 4.5 per cent. However, Canadians trying to obtain or renew a five-year mortgage may still be affected because longer-term Canadian borrowing is strongly influenced by U.S. bond rates.

For Canadianand U.S. long-term borrowers, a quarter-point increase is better than a half. But the implication of those "tighter credit conditions" means banks maybe fussier about whom they lend to.

While Powellechoed Treasury Secretary Janet Yellen's recent comments that U.S. banks were "safe and sound" and that depositors would not lose their savings, the Fed still remains unsure abouthow long distress in the banking sector will last. He said there was a lack of precision about how negative an impactit will have on the economy.

In fact, in their discussions just prior toWednesday's policy announcement, Powell said he and his panel of advisers had seriously considered following Canada's lead and pausing interest rate hikes altogether.

Economists from at leastone financial group, Japan's Nomura, hadsuggested the Fed would actually cut rates by half a per cent.

Despite repeated signals from financial marketsbased on bets on where interest rates will go next that the Fed will cut interest rates before the end of the year, Powell scoffed at the idea, saying the central bank had no plans for, and did not foresee, rate cuts in 2023.

Impact on rates still uncertain

But such a short time after an entirely unexpected disturbance in the banking sector, the impact on interest rates remains uncertain.

"We simply don't know," Powell said.

While he said there had been fearsthe takeover of Credit Suisse by its former Swiss competitor,UBS,would not go well, that seems to have changed.

"I would say that it has gone well." But then Powell paused before adding, "So far."

Asked by one reporter how the American publiccould be confident in their banking system when signals about SVB's failure "got missed" by regulators,Powell explained some of the things that made the bank'scaseunique, including growing too quickly and taking too many risks.

But there were also technical considerations. Powelldescribed an "unprecedentedly rapid and massive bank run" as a large group ofwell-connected and technically adept depositors withdrew their money "faster than historical records would suggest," he said.

Despite fears from some bankers includingScott Anderson, president and CEO of Utah-based Zions Bank that a 2018 rollback in regulations will get the blame and result in new tighter rules, Powell insisted that the central bank has tolearnenough to find out what happened and prevent a recurrence.

"My only interest is finding out what went wrong ... to make an assessment of what are the right policies to put in place so it doesn't happen again, and then implement those policies," he said.

WATCH | As inflation rate drops, food prices still on the rise:

Food prices still rising despite inflation rate drop

2 years ago

Duration 2:03

Canadas inflation rate dropped to 5.2 per cent in February, the biggest slowdown in inflation since April 2020. But the cost of food is still increasing for the seventh month in a row.