LATEST FED FINANCIAL STABILITY REPORT HIGHLIGHTS RISKS BUT SAYS BANKS HAVE CAPITAL TO ABSORB POTENTIAL ECONOMIC SHOCKS

By: Ken Chase.

The Federal Reserve’s November 2022 Financial Stability Report was released on Friday and suggested that the nation’s banks are well-capitalized to manage potential shocks to the U.S. economy. However, the report cited a number of worrying signs in the economy that could test that assessment in the months to come.

According to the report’s authors, stubbornly high inflation remains a particular area of concern, and one that could threaten financial stability if the Fed’s efforts to rein in rising prices fail. That assessment was seen by some analysts as another indication of the central bank’s commitment to beat back inflation even if it results in further economic distress.

The report acknowledged that delicate balancing act, noting that its continuing battle against inflation could potentially lead to higher than expected interest rates. That could result in a weakening of “debt service capacity” for the nation’s businesses and households, causing a rise in bankruptcy, delinquency, and other types of financial distress.

As the report notes, that outcome might lead to increased market volatility, pressure on liquidity, and greater decreases in prices for housing and other vital assets:

“Such effects could cause losses at a range of financial intermediaries, reducing their access to capital and raising their funding costs, with further adverse consequences for asset prices, credit availability, and the economy.”

The Fed’s assessment of bank capitalization remained positive, particularly for the nation’s larger banks which reportedly have the capitalization needed to absorb the impact of even a “substantial economic downturn.”