US banking woes cause havoc on world interest rate markets

America’s banking woes have sent shock waves through the world’s interest rate markets, to the point where it may have an influence on monetary policy in the US and around the world.

Silicon Valley Bank (SVB) fell over with alarming speed on Friday (US time), sparking concerns about what it could mean for other small-to-medium-sized US banks.

The US federal government has stepped into guarantee deposits, but SVB’s downfall continues to rattle the markets. The US government has also shut down Signature Bank, a regional bank.

On Monday, US Treasury yields fell by 62 basis points - the biggest single-day drop since 1987.

Declines in US bond yields and a weakening US dollar fed into the New Zealand markets, where key two-year swap rates have fallen by about half a percentage point since the SVB news came through.

Weakness in the US dollar has driven most other major currencies up – the NZ dollar by just over one US cent to US62.1c.

Analysts are reassessing what US banking woes might mean for US official interest rates – which were largely expected to rise later in the month.

Goldman Sachs economists no longer expect a rate move at all and see “considerable uncertainty” about the path ahead.

SVB’s failure had a two-pronged response.

There was flight-to-quality buying of US Treasures – driving prices up and yields down.

Then there were the possible implications for monetary policy, as investors with memories of the 2008 Global Financial Crisis feared the contagion effect the failures could have on economic activity.

Before SVB there was upward pressure on US interest rates because of persistent inflation and strong jobs growth in the US.

Now, the market has done an about-face, although conditions remain volatile, ANZ strategist David Croy said.

“Some commentators and forecasters in the US are now saying that the Fed may not just pause next week (March 23) but that they may actually cut,” he said.

“This fear of financial contagion has gripped the market and there is real concern that it is going to spill over into the rest of the US economy,” Croy said.

“All bets are off now in terms of what the Fed does next,” he said.’

The New Zealand two-year swap rate – which can have a bearing on home mortgage rates – fell to 4.98 per cent from 5.39 per cent on Friday.

In terms of New Zealand monetary policy, the financial markets are pricing in an official cash rate peak of 5.12 per cent in July, then 40 basis points worth of cuts in the following 12 months. The OCR currently sits at 4.75 per cent.

“We continue to be alert to the inflation risks in this country, but if global financial contagion spreads, then that is something the Reserve Bank will have to take into account,” Croy said.

“If volatility calms down and the US banking system stabilises – we could very soon be back to debating economic data in a couple of weeks’ time.

“But equally, if things continue to unravel, then all bets are off,” he said.

The US now has the fed funds rate peaking at 4.82 per cent in May, then falling to 4.0 per cent by December.

Before the banking crisis, the market had the Fed funds rate peaking at 5.47 per cent by September. tailing off to 5.33 per cent by December.

Westpac senior markets strategist Imre Speizer doubted America’s banking issues would mean much for New Zealand’s monetary policy.

“A panic in the small to medium-sized banking sector in the States might not have too direct an impact,” he said.

However, the impact could be seen in the way the market prices OCR expectations.

Domestic markets had priced 50 basis points for the Reserve Bank’s next meeting (on April 5), he said.

“That’s gone, and 25 basis points is not even fully priced in now.”