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The Fed: Fed’s Bullard wants to press ahead with higher interest rates, thinks financial stress will abate

The U.S. economy will be cushioned somewhat from the fallout of the recent stress in the banking sector because long-term bond yields have fallen, St. Louis Federal Reserve President James Bullard said Friday.

In his first comments since the rapid collapse of Silicon Valley Bank two weeks ago, Bullard said it is “relatively common that not all financial entities adjust their businesses appropriately to a changing environment.”

He listed the collapse of Continental Illinois bank in 1984, the Mexican “Tequila Crisis” in 1994, the bankruptcy of Orange County in 1994, and the collapse of Long-Term Capital Management in 1998.

“These events received considerable attention at the time, but were not ultimately harbingers of poor U.S. economic performance,” Bullard said.

While financial stress “can be harrowing,” it also tends to reduce the level of interest rates and that tends to be a bullish factor for the economy.

During the current banking sector stress, the 10-year Treasury yield has declined by 50 basis points and the 2-year Treasury yield has declined by about 100 basis points.

In his prepared remarks, Bullard said the new Fed lending program designed to stop contagion from potential bank runs “seems likely to be very effective.”

“The macroprudential response has been swift and appropriate,” he added. These policies can contain financial stress.

See: Emergency borrowing from Fed dips, a sign that bank stress may be easing

On the other hand, “appropriate monetary policy can continue to put downward pressure on inflation,” Bullard said, but he did not elaborate.

The St. Louis Fed president noted that the economy has been stronger than expected in the first quarter and the labor market has seen unprecedented strength that should continue to support consumer spending.

While inflation is too high, it has declined recently, Bullard said. He defended the Fed’s rapid increase in its benchmark interest rate over the past year, saying this has dampened the public’s expectations of inflation.

“This bodes well for the disinflationary process in 2023,” he said.

U.S. stocks
DJIA,
-0.51%

SPX,
-0.46%

were set to open lower Friday on worries about the banking sector. The yield on the 10-year Treasury note
TMUBMUSD10Y,
3.362%

slipped to 3.3%, well below the 4% level seen before the collapse of Silicon Valley Bank.

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