Top Fed Official Warns Growing Banking Crisis ‘Definitely Brings us Closer’ to a Recession

Minneapolis Fed President Neel Kashkari warned that the recent crisis in the banking industry that led to the closing of Signature and Silicon Valley Bank ‘definitely’ edge the United States closer to a recession. 

“It definitely brings us closer right now,” said Kashkari on Sunday. 

Kashkari said the banking crisis might lead to a decrease in the amount of money banks have to lend, leading to a credit crunch. 

“What’s unclear for us is how much of these banking stresses are leading to a widespread credit crunch. And then that credit crunch, just as you said, would then slow down the economy,” said Kashkari. 

Kashkari said the officials with the Fed are monitoring the fallout from the crisis ‘very, very closely.’ However, it’s too early to determine if it will have any impact on inflation and the next meeting of the Fed.

Wednesday, the Federal Reserve raised the key interest rate a quarter point to 4.75-5 percent, the highest rate since 2007. 

According to Kashkari, the banking crisis could lower inflation and prevent the Fed from raising higher rates. “On one hand, such strains could then bring down inflation, so we have to do less work with the federal funds rate to bring the economy into balance.”

However, Kashkari said the banking system has the “full support” of the Federal Reserve. “The banking system has a strong capital position and a lot of liquidity and has the full support of the Federal Reserve and other regulators standing behind it. The U.S. banking system is resilient, and it is sound.”

Customers withdrew over $100 billion from financial institutions in one week

Kashkari’s words followed a closed meeting of the Financial Stability Oversight Council after Fed data showed customers withdrew over $100 billion from financial institutions in the week that ended March 15.

However, he noted that money movements from minor banks into more significant institutions like JP Morgan had slowed recently, which he said was a sign of restored faith. 

“There are some concerning signs; the positive sign is deposit outflows seem to have slowed down. Some confidence is being restored among smaller and regional banks,” said Kashkari. 

The frightening banking saga happened over only two weeks. It has spurred the collapse of four major banks, Silicon Valley Bank, Silvergate, Signature, and recently, the global lender Credit Suisse.

The consecutive banking collapses have sent shockwaves across the sector, leading to liquidity crunches for other banks like First Republic, as citizens keep flocking to branches to withdraw their funds. 

Experts express confidence that the banking sector can endure the shocks and that the recent banking volatility is misleading. However, others warn they may still lead to a global catastrophe. 

Lenders’ shares in San Francisco and others have taken a steep nosedive over the past ten days, putting pressure on the Fed to pause rate hikes and shore up the financial market. 

Regulators offered ’emergency lifelines’ and included a $54 billion buyout of Suisse by the Swiss government and a $30 billion bailout for First Republic from a coalition of large banks, including Goldman Sachs and JPMorgan. 

Experts have maintained such measures have almost eliminated any risk of contagion in the banking industry. 

However, the current crisis comes as banks worldwide adjust to a steep flood in interest rates leveled to address economic inflation since the Covid-19 pandemic. 

Lenders like Credit Suisse and SVB have struggled to manage their portfolios after years of being used to low-cost borrowing using low-interest rates maintained by central banks worldwide.