US bank troubles may decouple Asian central banks from the Fed

Asian central banks may have room to run their monetary policy based more on local factors as the US Federal Reserve slows its pace of tightening following the failures of Silicon Valley Bank and Signature Bank.

Although inflation control has dominated global central banks' policy actions since late-2021, some analysts said a part of the tightening by Asian central banks was also to protect their currencies from excessive dollar strength brought by aggressive rate increases by the Fed. The collapse of the two lenders may ease pressure on Asian monetary authorities to follow the US central bank, led by Chair Jerome Powell.

"If an extremely hawkish Powell led to the conviction that some central banks would be left with no option but to follow the Fed, even if for some distance, the [Silicon Valley Bank (SVB)] incident helped reverse the belief since the Fed is no longer expected to remain as hawkish," Kunal Kundu, India economist at Société Générale said in an email interview with S&P Global Market Intelligence.

For example, Société Générale changed its prediction for Reserve Bank of India's April policy decision to hold from a previous expectation of a 25-basis-point increase in the benchmark interest rate after SVB collapsed.

California's financial regulator, the Department of Financial Protection and Innovation, said March 10 that it took possession of SVB, citing inadequate liquidity and insolvency. On March 12, the New York Department of Financial Services said it took possession of New York-based Signature Bank "in order to protect depositors." Both regulators both appointed the Federal Deposit Insurance Corp. as the receiver of the banks.

Silver lining

"What's clear here is that the silver lining of the crisis is many Asian central banks can now have room to respond to their own economic cycle without severe consequences on the [foreign exchange] or inflation side," Natixis Corporate & Investment Banking said in a report. "We believe that the possibility of less hikes in the US will help Asian central banks also pause their tightening cycles," it added.

Asian central banks had to either follow the Fed in hiking rates and expose their economies to the impact of higher rates, or keep rates steady and take the pressure on their currencies and portfolio flows, especially bonds, Natixis said. The end of the Fed tightening cycle will be a huge reprieve to economies such as South Korea, Thailand and Malaysia due to the high levels of leverage in their financial systems, it added.

The Fed on March 22 announced a 25-basis point interest rate hike, opting to keep its focus on inflation. The decision had economists divided, with Goldman Sachs previously predicting a pause and Nomura going as far as to say the Fed would cut.

Banking turmoil

"The turmoil in the banking system has mildly altered the Fed's approach to monetary policy, but the inflation fight is yet to be won," ICICI Securities said in a March 23 note. "Since the degree of this banking-related credit tightening is uncertain, future policy actions will be data-dependent," it added.

The Federal Open Market Committee noted that the recent problems in the banking system will tighten credit conditions. Moreover, the People's Bank of China cut its reserve requirement ratio March 27 as the Chinese central bank doubles down on its efforts to support economic recovery from the pandemic. The Bank of Japan is also likely to maintain its ultraloose monetary policy for much longer.

Vietnam cut its policy rate by 100 basis points on March 15 and expectations are building that many Asian central banks may be near the top of their tightening cycles. Still, the Bangko Sentral ng Pilipinas announced a rate hike March 23 and Bank of Thailand announced one March 29.

"US regulators, as well as major US banks, seem to have ring-fenced the SVB crisis and market confidence stabilized in the US, so some pressure on Asian banks has been eased for now," Song Seng Wun, an economist at CIMB Private Banking said.