A sharp rise in interest rates to curb new inflation shocks would pose a risk to the US economy, the Federal Reserve said Monday, as it reported a “higher than normal” chance that trading conditions in US financial markets would suddenly deteriorate.
“Additional adverse surprises in inflation and interest rates, especially if accompanied by a slump in economic activity, could have a negative impact on the financial system,” politicians wrote in the Fed’s biennial financial stability report, published twice a year in May and November. .
Consumer finance could be affected by job losses, higher interest rates and lower house prices, the Fed warned, with businesses also facing “greater arrears, bankruptcies and other forms of financial hardship.”
“The sharp rise in interest rates could lead to higher volatility, pressure on market liquidity and large adjustments in risky asset prices, which could potentially cause losses for a number of financial intermediaries,” the Fed said.
This will reduce “their ability to raise capital and maintain the trust of their counterparties,” the central bank added.
The United States also issued a liquidity warning – the ability to buy or sell an asset without affecting the price – after several frantic months in US markets. The sale wiped out trillions of dollars worth of stocks and bonds, while closing the door to new stock listings and raising borrowing costs for consumers and corporations.
The Fed said the ability to buy or sell assets at prices quoted by broker dealers had “deteriorated” and was worse than expected given volatility levels. He added that the decline in liquidity could be complicated by the fact that brokers and high-frequency trading companies are “especially cautious” given market conditions.
“Reducing depth in times of growing uncertainty and volatility can lead to negative feedback, as lower liquidity can lead to more volatility in prices,” the report said.
Conditions in public finances, commodity markets and stock markets were noticeably poor this year, with traders reporting struggling to make even relatively small deals without affecting prices.
Fluctuations in the price of everything from government securities to corporate bonds and stocks have also been triggered in part by the Fed’s move to tighten monetary policy, as well as Russia’s invasion of Ukraine and China’s economic slowdown.
The central bank achieved its first half-point increase since 2000 last week and is expected to implement further increases of the same scale at its next two policy meetings. It will also begin shrinking its $ 9 trillion balance in June – which has risen since accumulating bonds during the coronavirus pandemic – as it intensifies its efforts to contain the highest inflation in about 40 years.
The prospect of higher interest rates pushes the yield of the benchmark 10-year treasury to its highest level since 2018. This rise has forced investors around the world to reassess the value of many of the shares they are bidding to record highs last year. , with the S&P 500 falling more than 16% this year and the technology Nasdaq Composite falling more than 25%.
The Fed also noted potential risks associated with the “long” war between Russia and Ukraine, which has already strained commodity markets.
“Russia’s unprovoked war in Ukraine has sparked large price movements and demands for margins in the commodity market and highlighted a potential channel through which large financial institutions could be exposed to contagion,” Lael Brainard, deputy chairman, said in a statement. Monday’s report.
“The Federal Reserve is working with local and international regulators to better understand the exposures of commodity market participants and their links to the major financial system.
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