Hawkish

The European Central Bank (ECB) kept to its schedule of interest rate hikes despite growing signs of distress in the banking sector. This week, the ECB raised its policy rates by half a percentage point even as banking giant Credit Suisse needed a $53-billion loan from the Swiss National Bank to stabilize its position.

Before the fund infusion, Credit Suisse stocks dropped by 30 percent after reporting certain “weaknesses” in its finances. This 167-year-old banking institution could hardly be called a “small” bank. It is the second biggest Swiss lender and has been described as a “global systemically important bank.” In short, it is too big to fail.

Across the Atlantic, a regional US bank, First Republic, received a $30-billion infusion from a consortium of large banks to support its financial position. This is after Silicon Valley Bank and Signature Bank collapsed days before.

The consortium of big banks appeared to have been pressured by the US government to lend money to First Republic to help the regional bank stave off a potential bank run. Its stock price dropped sharply the preceding days after reporting that it had lent out more money than it took in deposits.

The banks that failed or had to be rescued did so for very different reasons. One witty publication called the sequence of bank troubles a “crisis of coincidence.” Nevertheless, the spate of stories about troubled banks is keeping investors jumpy.

Suddenly the global banking system appears shaky just as the possibility of a painful economic recession this year looms. Should a recession happen, banks will be burdened with large volumes of loanable funds for which there is a scarcity of borrowers. The saga of banking travails just goes on and on.

So seriously have anxieties risen that the Bankers Association of the Philippines found it necessary to issue a statement that our domestic banking system remains stable and no Filipino bank holds any exposure to the collapsed US banks. Of course. But the fact that such a statement even had to be issued underscores the level of concern among depositors, companies and investors.

Next week, the US Fed will announce interest rate decisions. For a moment, there was some expectation the US authority might moderate its interest rate hike decision in the face of two bank failures attributable to the effects of a high interest rate regime.

More recent indications, however, point to the US Fed remaining as hawkish as ever. Taming inflation remains its paramount concern, just as the ECB maintains. “We are not waning on our commitment to fight inflation,” says ECB president Christine Lagarde. “The determination is intact.”

Our own BSP closely tracked US Fed interest rate decisions the past year of rapid rate escalations. Should the US Fed maintain its hawkish posture, expect the BSP to do the same. The central banks are trying not to appear rattled by the recent string of bank failures.

Instead of backing off from their aggressive interest rate strategy, the central banks have opted to establish funding facilities to rescue banks that might be pushed to distress by the high interest rate environment. To this end, the US Fed set up a new liquidity facility to support banks.

Should the BSP hew closely to the hawkish positions adopted by US and European central banks, it might be wise to adopt the same strategy of establishing a liquidity facility to ensure our financial institutions are not unduly rattled by unexpected events. That is a most prudent thing to do – if it is at all possible to do so.

It does not help, however, that the BSP is considered under-capitalized, given the size of the financial institutions it is supposed to regulate. The Philippine government is pursuing contradictory policies in this regard. On one hand, government is trying to raise BSP capitalization. On the other hand, proposed legislation setting up something called the “Maharlika Investment Fund” (MIF) will take money from the BSP to capitalize the envisioned fund.

We might be dazzled by the fact that the BSP holds about $100 billion in gross international reserves. It might seem our central bank has ample liquidity. Given the size of our financial system, $100 billion can easily evaporate in the event of a serious crisis. That amount is not even enough to effectively defend our currency’s exchange rate.

The MIF is a fancy idea whose time has not yet come. Given the present turbulence in the global financial system, the BSP needs to hold on to its cash to troubleshoot whatever problems might break out.

This will not be an easy year. A global recession looms. The war in Ukraine may result in aggravated tensions.

Banks almost always build impressive facades for their head offices to convey the strength of their business. But the truth is, banks are highly susceptible institutions. They tend to catch whatever virus is in the air.

At the first hint of trouble, depositors rush to take their money out. The rush is much quicker with social media and electronic banking.

When recession hits, the banks lose borrowers and are stuck with unusable funds. That reflects badly in their numbers.

When regulators act too slowly or find themselves with only limited means to address liquidity issues, banks are fast to sink. We saw this in the recent spate of bank closures and rescues.

There is simply no substitute for strong central banks whose financial strength is matched by adept regulatory responses.