As many as 700 banks out of a total of 4,844 banks in the United States experienced potential losses. The cause of the loss was the decline in the book value of debt securities due to the increase in core interest rates in the United States. If these banks need funds immediately and are forced to sell the debt securities, losses will become real.
This is the quarterly report of the Federal Reserve (Fed/US Central Bank) entitled "Impact of Rising Rates on Certain Banks and Supervisory Approach" as of February 14 2023 and appeared in US media, May 13 2023. The report was written jointly by Board Risk, Supervision and Regulation (a division of the Fed) and the Federal Reserve Bank of Kansas City.
The report on potential losses is based on the situation until September 2022. At that time the core interest rate was at the level of 3 – 3.25 percent or an increase from 0.25 – 0.50 percent in March 2022. Since then banks have started to experience losses due to decline in value. book of debt securities in the form of bonds and the like.
In September 2022, 700 banks will have experienced losses exceeding 50 percent of their total capital. Of the 700 banks, 31 banks have lost an amount that exceeds their capital.
Now interest rates in the US are at the level of 5 – 5.25 percent. Thus potential losses will definitely increase. The book value of debt securities depends on interest rate movements. If interest rates rise, the book value of debt securities falls and vice versa.
The story of placing assets in the form of debt securities begins with the entry of deposits into the banking system totaling around 18.06 trillion US dollars in May 2022, based on data from the Federal Reserve Economic Data (FRED). The economic stimulus resulting from the Covid-19 pandemic has caused the US banking system to experience an influx of interest-free deposits.
Policy Effects March 2022
At the same time, credit disbursement did not work because the economy slumped during the pandemic. As much as 6 trillion US dollars of total banking funds were placed into debt securities and became a source of income for banks.
However, then inflation began to increase since 2021 and in March 2021 reached 2.6 percent, leaving the inflation target of 2 percent. Inflation continues to increase until it reaches a peak of 9.1 percent in June 2022.
The Fed began raising core interest rates starting March 2022 when inflation reached 8.5 percent, after delaying the increase for a long time. The core interest rate was raised in March to 0.25 – 0.5 percent to suppress inflation.
Since March, banks in the US have received two blows, namely losses in the book value of bonds and withdrawals of deposits by customers. This deposit withdrawal occurred because the bank did not provide interest rates. Depositors withdraw funds to place them in money markets for higher returns.
Since May 2022, US banks have experienced deposit withdrawals amounting to 910 billion US dollars. In other words, deposits fell from 18.06 trillion US dollars in May 2022 to 17.15 trillion at the beginning of May 2023. This is in addition to additional deposit withdrawals of 13 billion US dollars until 13 May 2023.
This withdrawal has also made a number of banks in the US confused. The problem is, banking liquidity funds are placed in the form of debt securities. Even more complicated, more than 75 percent of these debt securities have a maturity of more than 3 years and generally 10 years.
The need to obtain funds to service deposit withdrawals forced several banks to sell debt securities at a loss, as was the case with Silicon Valley Bank (SVB), which went bankrupt on March 10 2023. Since then the threat of bankruptcy has continued to plague the US.
However, US Central Bank Governor Jerome Powell said that US banking conditions were strong. "Wall Street doesn't believe Powell's words," said Charles Gasparino, a columnist, on the New York Post website, May 6. “Depositors are losing confidence,” Gasparino continued.
For this reason, there are many calls for the Fed to immediately reduce interest rates so that banks avoid difficulties. However, the problem is that until March 2023 inflation will still be 4.9 percent. It has decreased but is still far above the target of 2 percent.
However, there are many types of measures for inflation. As many as five of the nine inflation measures show that inflation is now even higher than a year ago. “This calls into question the view based on conventional measures that inflation is declining,” said the President of the St. Louis Federal Reserve, James Bullard, Friday (12/05/2023), while speaking at a conference on the monetary sector sponsored by the Hoover Institution at Stanford University.
The Fed's choice to look at inflation is by looking at the personal consumption expenditure (PCE) index and it decreased to 4.2 percent in March 2023 from 5.1 percent in February 2023. This data was obtained using information from the US Department of Commerce.
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