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MNI INTERVIEW: Fed Dot Plot To Look Past Bank Crisis -Lockhart

The FOMC's interest rate projections next week are likely headed higher despite market expectations for 75 bps of rate cuts this year after the failure of two midsize banks, former Atlanta Fed President Dennis Lockhart told MNI.

It is unlikely the Summary of Economic Projections will signal significant concern that the collapse of Silicon Valley Bank and Signature Bank will lead to a severe downturn, though some officials could incorporate higher chances of a recession into their individual forecasts, Lockhart said in an interview.

"The projections overall are going to look past the circumstances of this week and reflect an assumption that stability is restored," Lockhart said. "The question remains: what are they going to do about inflation? Although year-end is nine months away, a lower median rate for end-2023 would be surprising considering the persistence of inflation." (See: MNI INTERVIEW: Inflation Proves More Persistent - Fed's Garriga)

But with the recent market turmoil, Lockhart doesn't rule out a greater dispersion of outlooks. (See: MNI INTERVIEW: Fed Should Pause, Assess Two-Way Risk-Rosengren and MNI INTERVIEW: Fed Set For Hawkish Pause On Turmoil-English)

"It’s possible the committee will move from a fairly tight consensus to more varied views as to how things will pan out and what’s needed in the way of policy," he said. But, "I don’t think a continuation and widening of financial system stress will be the base case."

DOING THE EXPECTED

Lockhart expects the FOMC to nudge rates higher by a quarter-point next week to a target range of 4.75% to 5%. A pause in rate hikes could backfire by feeding alarm, signaling the regulators see the banking system as more fragile than it appears. Fed funds futures are pricing in a 86% chance of a 25 bp move next week.

"The committee will be trying to separate financial stability concerns from inflation concerns to the extent possible. They have distinct tools for addressing each," he said.

Some tightening of credit availability as a result of the bank failures and precautions against runs could actually aid the Fed's effort to engineer a slowdown in the economy to fight inflation -- so long as the tightening isn't too abrupt or severe, Lockhart said. (See MNI INTERVIEW: Lockhart Sees Fed Lifting Rate Estimates in SEP)

FED TO BLAME?

While Silicon Valley Bank on its own wasn't systemically important, "we've learned that collectively small banks could present a systemic problem," he said. “Market and depositor psychology can completely run away from the initial facts of the triggering event, and that could create distress in banks that would otherwise be safe.”

The Fed's regional supervisors and bank examiners were likely in frequent contact with SVB management and may have taken steps to warn the bank about growing risks, Lockhart said.

“There’s no way a regulator can or should be a shadow management team of a bank. Regulators appreciate the difficulty of predicting disaster and can only go so far in forcing worst case scenarios on a bank’s management when things look stable and problems seem manageable," he said.

"That said, there are flaws in the regulatory approach that will need to be fixed.”

MNI Washington Bureau | +1 202-371-2121 | jean.yung@marketnews.com
MNI Washington Bureau | +1 202-371-2121 | jean.yung@marketnews.com

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