It feels like a bit of déjà vu for the Fed as US regional banks come under pressure once again before they announce their next policy decision.
It will be a case once again where markets will look to the Fed decision and see if Powell will offer up any relief after the jitters from yesterday. The first thing traders and investors will be watching is the interest rate decision and whether the Fed will hike by 25 bps or not.
If the Fed does hike by 25 bps, the initial kneejerk reaction could see another heavy selloff in regional banks. At this point, markets can argue that policymakers will have to draw a line somewhere after yet another bank (First Republic) failed and there are increasing worries involving other banks like PacWest and Western Alliance.
Adding to that argument is the fact that the Fed tends to pacify markets and go with "what is expected", so as to not upset the balance and order of things. This has been the mantra ever since Yellen took over and Powell has continued with that all through his tenure so far. That should be no different this time.
And if you take a peek through the looking glass, perhaps the decision to hike by 25 bps is the lesser of two evils.
Let's say that the Fed chooses not to hike at all today. Firstly, that creates a serious credibility issue as it means that their resolve to combat inflation has wavered. That is not something markets would like to see at any point, I would say.
Then, what happens if regional banks still end up getting clobbered once we get to the Wall Street close? There is no fallback for the Fed in this instance. They will end up losing both credibility on the inflation front and also failing to appease markets as regional bank fears linger.
Whereas if they do hike by 25 bps, there is still that and Powell can then try his best to soothe markets by implicitly hinting at a pause in the tightening cycle.
It's sort of a damned if you do, damned if you don't kind of situation. I shared some other thoughts on the Fed decision here. What do you think the Fed should do and would do later today?
