As markets begin to settle down following the turmoil caused by the banking crisis in March, experts are reflecting on the policy response and considering what lessons can be learned for the future. The International Monetary Fund has warned of a "perilous combination of vulnerabilities" in markets, and the Bank of International Settlements has highlighted the danger of surging inflation coinciding with very high debt levels. Northern Trust's chief economist, Carl Tannenbaum, has warned that although the risks to the financial system may have eased since March, the crisis has not passed.
One key takeaway from March is the importance of sticking with the plan. The Federal Reserve and the European Central Bank continued hiking rates, despite the market turmoil caused by Silicon Valley Bank's failure and Credit Suisse's forced merger with UBS. Changing course at this point could have exacerbated the situation, and central banks had to show their seriousness on inflation, which is good for markets and the economy.
Communication was also crucial, and central banks had to be mindful of the risks of instability when communicating their decisions. Central banks were able to soften rate rises with reassuring "humility," which helped to calm the markets. However, the Swiss National Bank's communication around Credit Suisse's capital and liquidity requirements was called into question when the bank was forced to merge just days later.
Another lesson learned was the importance of taking the pain. Following the 2008 crisis, global efforts were made to stop taxpayers funding bailouts of troubled banks. Credit Suisse's rescue showed that the pain could be shared with the bondholders and shareholders bearing the cost. However, the uncertainty around holding AT1s put the idea of shock absorbing capital buffers at risk, and the bank resolution framework created after the financial crisis is proving difficult to implement.
Finally, the importance of unity was highlighted by the Fed and other big central banks who supported market liquidity with dollar swap lines. Keeping the global reserve currency flowing likely prevented fears of international institutions dumping U.S Treasuries to secure dollars or foreign central banks becoming unable to deliver dollars.
The lessons learned from March highlight the need for stability, communication, and unity in the face of financial crises.
