Small banks doubt the Fed can avert a recession

BY SourceMedia | ECONOMIC | 04/28/22 10:25 AM EDT By Jon Prior

Small-bank executives are losing confidence that the Federal Reserve, which is in inflation-fighting mode, can simultaneously keep the U.S. economy out of a recession.

In a survey of community bankers conducted April 4-17, about 52% of the respondents said they were concerned the Fed will overcorrect for rising prices by raising borrowing rates too quickly and too high.

Some 47% of the small-bank executives believe the economy will significantly or moderately worsen over the next 12 months, compared with 20% who gave a darkening outlook in January, according to the survey of key executives at banks with up to $10 billion of assets.

"We?ve asked questions in the last couple of surveys where they?ve been incredibly deferential. And in this one they are showing doubts that the Fed can land the economy softly,? said Paul Weinstein, a senior advisor at IntraFi.

When the firm polled small-bank executives in January, about 63% said they agreed with the Fed?s forecast of three increases to its main borrowing rate this year. But Fed Chair Jerome Powell has since signaled that the central bank?s rate-setting committee will have to become more aggressive as inflation remains stubbornly high. 

Powell has indicated that a hike of 0.50% ? double the usual increase ? is on the table for the Fed?s next meeting on May 4 and 5. He has also indicated that similar increases could again be in store afterward.

?Now that the Fed has started raising rates, the reality of more rate hikes ahead is starting to set in,? Weinstein said. ?Bankers are more wary about whether the Fed is going to go too fast, too far, and will end up creating other problems for the economy."

"The outlook has gotten much, much worse,? he said.

Earlier this month, leaders at some large banks said they, too, were concerned about whether the Fed could safely rein in inflation without causing other economic problems.

JPMorgan Chase (JPM) was among the banks that began rebuilding their reserves for potential losses during the first quarter. CEO Jamie Dimon pointed to inflation as one of the ?storm clouds on the horizon? during an April 13 call with analysts.

The fallout from rapidly rising interest rates is also expected to have impacts on the market for bank deposits.

About 39% of the bank executives surveyed said the Fed would need to impose another increase of either 0.25% or 0.50% before they would start raising deposit rates for account holders.

That threshold is likely to be reached when the Fed meets next week, meaning that savers could soon start seeing some benefit from the central bank?s moves.

About 60% of the bankers surveyed said they expect competition for deposits to increase over the next 12 months ? up from 42% who expected more jockeying for accounts in the January survey. 

Beyond the effects of monetary policy, IntraFi asked bank executives about what regulatory policy issues have their attention.

Roughly 22% of the respondents expressed a high level of focus on the Consumer Financial Protection Bureau?s proposal on collecting small-business loan data, followed by 19% who were highly focused on the bureau?s crackdown on ?junk fees.?

By comparison, less than 5% of the small-bank executives said they were highly focused on the Fed?s development of a digital currency or on regulatory standards for stablecoins.

Over the long run, the latter issues could have a broader impact on community banks? businesses than the topics that drew more focus, Weinstein said.

?Banks are very focused on issues they see having an immediate impact on their bottom line,? he said, ?but they may be overlooking important policy debates that may have a larger, and longer-term impact.?

In general the bond market is volatile, and fixed income securities carry interest rate risk. (As interest rates rise, bond prices usually fall, and vice versa. This effect is usually more pronounced for longer-term securities.) Fixed income securities also carry inflation risk and credit and default risks for both issuers and counterparties. Unlike individual bonds, most bond funds do not have a maturity date, so avoiding losses caused by price volatility by holding them until maturity is not possible.

Lower-quality debt securities generally offer higher yields, but also involve greater risk of default or price changes due to potential changes in the credit quality of the issuer. Any fixed income security sold or redeemed prior to maturity may be subject to loss.

Before investing, consider the funds' investment objectives, risks, charges, and expenses. Contact Fidelity for a prospectus or, if available, a summary prospectus containing this information. Read it carefully.

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