What is going on with global interest rates?
Global interest rates are currently a hot topic as our main trading markets in the UK, Europe, and the USA have all seen rate increases in the past few weeks, with predictions of further hikes on the horizon. This strategy, employed by central banks, is causing significant instability in the financial sector. Several US banks, including notable institutions like SVB, Signature, Credit Suisse, and First Republic, have faced severe challenges in adapting to this new environment and have consequently paid a heavy price.
The central banks' intent to keep inflation targets at 2-3% despite the challenges of reducing inflation is raising concerns about the impact on the credit market's supply and demand. Businesses, therefore, need to prepare for a higher interest rate environment and consider its potential effects on their clientele.
Considering the interest rates in the US and UK, and the fact that the European Central Bank (ECB) could be lagging, businesses should anticipate a 5% rate scenario. This involves forward planning, strategic modelling, and developing a framework to navigate through what could be a challenging situation. It's a topic that should be discussed not only in boardrooms but also at the kitchen tables of every family business.
Last week, the ECB raised the rate to 3.25% in response to Eurozone inflation hitting 7% for the year to April. Even with a drop in core inflation (which excludes volatile items such as energy and food) to 5.6%, the ECB warns that underlying inflationary pressure remains potent. Despite the market expecting a larger increase, Christine Lagarde, ECB President, emphasized that the current inflation outlook is unacceptably high and persistent. The Bank of England is expected to follow suit, with predictions of a quarter-point increase from the current level of 4.25%.
In the US, a significant development was JP Morgan's acquisition of most assets and deposits of First Republic, the latest bank failure in the country within a two-month span. This transaction was facilitated by regulators.
These developments contribute to market pressures and tensions. If they persist, they could pose a threat to economic growth by potentially further tightening credit availability to businesses and households.
The Federal Reserve recently raised its benchmark target range by 0.25%, pushing the federal funds range to 5-5.25%, the highest since September 2007. A recent survey by the World Economic Forum showed that ‘80% of chief economists believe that central banks face a trade-off between managing inflation and maintaining financial sector stability’. They predict that a prolonged period of higher interest rates could expose more weaknesses in the banking sector, potentially limiting the central banks' ability to control inflation. As one contributor noted, it is illogical to assume that there won't be more casualties in the banking industry as it rapidly pivots to a higher interest rate environment.
For further reading see the article links below:
European Central Bank chief suggests firms are engaging in ‘greedflation’ - The Guardian
Federal Reserve pushes interest rates above 5% for first time since 2007 - Yahoo Finance