Could the Federal Reserve be headed for a repeat of a financial crisis due to bank collapses?

This week, the news has been filled with stories about bank collapses, but what lies ahead? According to Brad McMillan, Chief Investment Officer of Commonwealth, this could be a sign that things are starting to improve.

Bank Failures, the Fed, and a Financial Crisis Rerun?Photo credit: Shutterstock
In a repeat of history, bank failures and the Federal Reserve have once again been thrust into the spotlight as a potential cause of a looming financial crisis.

The banking sector has been in a state of turmoil in recent weeks, as three banks have been shut down and several more remain under pressure. In a bid to prevent a domino effect of collapses, the government has stepped in to support these banks. The government recently took over the failed Silicon Valley bank and guaranteed all its deposits, ensuring that customers need not worry about their savings. It also launched a new program to lend against bank assets at par to those banks that are facing solvency issues, giving them time to find a resolution. This intervention from the government could help to stabilise the banking sector and prevent a wider crisis. With the government taking action to support the banking sector, customers can rest assured knowing that their deposits are safe and sound.

The Federal Deposit Insurance Corporation (FDIC) has taken action to address the instability of the banking industry by increasing their review and surveillance processes. In addition, large banks have banded together in support of First Republic, a bank facing financial difficulty, by injecting tens of billions of dollars in deposits. A similar situation was observed abroad with Credit Suisse, where the Swiss National Bank provided financial support to the tune of tens of billions of dollars. The FDIC and banking industry's proactive approach to stabilizing the financial sector is a sign of strength in an ever-changing economic landscape.

In a scene reminiscent of the Great Depression, a classic bank run occurred in Smalltown, USA today as citizens rushed to withdraw their savings from the local bank.

Bank runs were a common occurrence in the early days of finance, but modern banks have been relatively safe. Unfortunately, recent events have demonstrated that the risk of a bank run still exists. Banks have been found to be investing their deposits in long-term government bonds, which has raised alarm bells with depositors who fear a financial crisis. Fortunately, governments have responded to the potential financial crisis and have stepped in to prevent a systemic blowup. This proactive approach is a much-welcomed step in safeguarding the economy and preventing a repeat of the 2008 financial crisis.

With the world continuing to grapple with the effects of the pandemic, it's hard to know what the future holds.

The regional banking sector is facing an uphill battle as businesses are becoming increasingly aware of the risk of their deposits being held at smaller banks. Stock prices of regional banks have been dropping, and as customers start to move their deposits to larger banks, this trend looks to be continuing. However, the government has provided a cushion to the sector, laying the foundations for them to strengthen their balance sheets and survive. Now it is up to the private sector to take up the mantle and come up with solutions to the looming problem. Banks will need to fight to retain their customers in the coming months in order to stay afloat. It is clear that the regional banking sector is going to have a challenging few quarters ahead, but with the help of the government and the private sector, they have the potential to come out the other side.

As the markets continue to fluctuate, it is important to note the difference in pressure placed on regional banks, as compared to smaller, local banks. Regional banks are typically large enough to have substantial uninsured deposits, while local banks typically have a retail depositor base with deposits of $250,000 or less, making them fully insured. This means that local banks will face much less pressure than their regional counterparts.

The risk of a recession is on the rise, and the banking sector is feeling the heat. With higher interest rates eroding the value of their assets, banks must make tough decisions to reduce costs, lower liabilities and stay afloat. The government has provided a temporary lifeline by letting them borrow against their assets at par, but this is only a short-term solution. Banks are already starting to reign in their spending, and this could lead to slower economic growth and tighter financial conditions. It may be this series of events that finally tips the scales and triggers a full-blown recession.

Today marks a key moment in the history of the Federal Reserve: for the first time in over a decade, the Fed is making a major shift in monetary policy.

This week may prove to be a turning point for the better, according to the Federal Reserve (Fed). Lower interest rates in the market are a direct result of the Fed's expectation of a deeper recession this year, which will result in the Fed pausing or reversing its rate hikes. This lower rate is also helping alleviate the banks' asset valuation issues. Thus, despite the current headlines and turmoil, the Fed believes that this week may prove to be a positive turning point.