Bankers are bracing for a deterioration in credit quality and increased liquidity pressures in the wake of a sharp escalation in interest rates and an impending economic downturn. Portents of economic pain include a deeply inverted yield curve, underwater bond portfolios, a rise in corporate defaults and liquidity-driven bank failures.
Has the industry done enough to prepare? While the answer to this question ultimately depends on the level of future rate increases, when viewed from today’s vantage point, the industry appears to be well situated to weather the anticipated downturn.
Signs of an economic slowdown are unmistakable. Economic activity in the manufacturing sector declined in December, as did consumer spending. GDP growth in the fourth quarter, while better than what economists expected, also declined from the prior quarter and exhibited some underlying weaknesses including a slowdown in capital spending. According to the Federal Reserve’s Beige Book, economic activity in many regions of the country was tepid and bankers reported a decline in loan demand. It’s not surprising that most economists, business leaders and bankers expect the economy will undergo a mild recession.
Yet, by other measures the economy remains resilient. The labor market remains robust. Employers added 517,000 jobs in January and the unemployment rate fell to 3.4%, the lowest in more than 53 years. The number of job vacancies still exceeds the number of people looking for work and recently announced layoffs have been concentrated in certain sectors such as technology.
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