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Markets Humiliate Jerome Powell

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Jerome Powell has not had a great week.

Yesterday, shares of PacWest Bancorp fell about an hour after Federal Reserve Chairman finished his press conference. After-hours, many regional U.S. banks’ shares plunged sharply. PacWest had hoped to calm down investors with reassuring remarks last night. However, after one hour of trading today morning their shares were down nearly 60%.

The market is in full panic mode. The sell-off that occurred on Wednesday night was caused by a seemingly innocuous report, which stated that PacWest “was weighing strategic options”, including a possible sale or breakup of the bank. News that a company may be considering a sale usually boosts its stock price. In the middle of a banking crisis, the news has the opposite impact. Investors assume that you don’t sell because you want to but because you must.

The market also seemed to interpret PacWest’s attempts to be reassuring, as a sign weakness.

PacWest stated in a press release that the bank had not seen any unusual deposit flows as a result of First Republic Bank’s sale and other recent news. “Our liquidity and cash are solid, and exceed our uninsured deposit.”

The market interpreted the sudden drop in the price of the shares from $6.00 per share to $3.00 over night as a sign that a possible collapse was imminent. The market, just like in 2008 now interprets any talk of having plenty liquidity as the opposite.

On March 13, 2008, Bear Stearns CEO Alan Schwartz appeared on CNBC and denied widespread rumors that the investment banking firm faced a shortage of cash.

He said: “We do not see any pressures on our liquidity. Let alone a crisis of liquidity.”

It was Wednesday. JPMorgan Chase had to save Bear Stearns over the weekend following, with help from the Federal Reserve.

Contagion is another familiar 2008 feature. It’s not clear why a report about PacWest would cause Western Alliance to plunge by as much 62 percent.

Bill Ackman, hedge fund manager, is hard to disagree with.

“Banking is all about confidence.” A regional bank cannot survive at this rate as bad news and bad data will lead to a plunge in stock prices, withdrawal of insured and non-insured deposit and the FDIC shutting down over the weekend. There is no incentive for bidders to make a bid until after Sunday, Ackman tweeted. “Confidence is built in financial institutions over decades, and then destroyed in days. The next weakest bank starts to tremble as each domino falls. Investors will not be rewarded for betting against a tumbling bank until they are rewarded. The best price is the last sale.

Powell was humiliated by this, especially because he began his press conference with a positive assessment of the state of the banking industry.

“Good afternoon. Powell said, “Before we discuss today’s meeting let me briefly comment on recent developments in banking sector.” Powell said that conditions in the banking sector had improved significantly since early March. The U.S. banking system was also resilient.

Powell went on to declare the end of the banking crisis in a more direct manner.

Three large banks were really at the core of the stress we experienced in early March. All of these banks have now been resolved and all depositors are protected. The sale and resolution of First Republic is an important step in drawing a conclusion to that time of extreme stress.

Powell’s credibility is seriously questioned by the fact that this was met with a sell-off in bank stocks. Since much of what central bankers do is based on credibility, it raises serious questions about Powell’s leadership abilities.

You cannot be half pregnant, and you can’t be half credible. It is not surprising that those who doubt Powell’s ability to accurately assess the banks doubt also his assertion that the Fed won’t cut rates in the coming months or that the U.S. is likely to avoid recession.

The math is brutal. The Fed’s Summary of Economic Projections was released at the meeting before this week. Fed officials’ median views were that the December federal funds rate would be at around 5.1 per cent, which is where it currently stands. Markets are currently pricing no chance for that, and less than one percent of a rate target range of 4.75 to 5 percent. A mere 11 percent is given to the next level. The market prefers to use a range between 4.25 and 4.50 percent, or even 4 percent to 4.25.

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