Central banks step in as Credit Suisse collapses. India must monitor channels through which crisis can permeate into domestic economy

Source: The post is based on the following articles

“Credit Suisse collapse: An RBI lesson for European central banks” and “Central banks step in as Credit Suisse collapses. India must monitor channels through which crisis can permeate into domestic economy” published in the Indian Express on 21st March 2023.

“US bank failures – Europe may see similar troubles – are thanks to monetary/ fiscal imprudence. And India should brace for aftershocks. Two analyses” published in The Times of India on 21st March 2023.

“Avoiding contagion – Credit Suisse collapse shows need to focus on stability” published in the Business Standard on 21st March 2023.

Syllabus: GS – 3: Effects of liberalization on the economy.

Relevance: About recent bank failures and their impact on India.

News: Credit Suisse, a 167-year-old most influential bank in global history, especially in the areas of wealth management and investment banking, has collapsed recently. It was sold to Union Bank of Switzerland(UBS), which is Switzerland’s largest bank and a long-time rival.

About Credit Suisse collapse and recent bank crisis around the world

Credit Suisse’s fall comes only days after the collapse of three banks in the US. Further, the SVB Crisis has led Moody’s to downgrade New York-based Signature Bank to junk and place the ratings of six other US banks under review for a downgrade.

Any bank which has a smaller loan book and a larger portfolio of treasury bonds now faces similar risk. US banks are currently sitting on an estimated $600 billion in potential losses owing to the erosion of their bond portfolios.

The US Fed is in dilemma, as the increasing interest rates will curtail inflation but hamper banks, on the other hand, reducing rates will worsen the inflation problem.

In response, central banks across the world have announced a coordinated response.

Note: As part of US Fed’s recent programme, banks can borrow from the Fed by placing their securities as collateral. The collateral will be valued at the face value of the security instead of the common practice of its market value. Also, the borrowing can be for maturity of one year instead of the usual three months. As the interest rates next year may be higher than now, the hit taken by the most vulnerable banks may be even greater next year.

Must read: Silicon Valley Bank crisis: Reasons and Impacts - Explained, pointwise

What will be the impact of US policy on India?

If the fed pursues an interest rate hike: Trigger a system-wide panic and push depositors away from smaller banks to bigger, more diversified banks thereby precipitating more bank-runs. The potential problems for India’s Economy include a) surge in demand for “safe” assets such as gold, b) currencies of emerging economies like the Indian rupee will come under pressure as foreign investors flee. (This will depreciate rupee).

If the fed reduced interest rates: a) the US economy could fall into a recession, hampering India’s growth prospects through the exports channel, b) Increase domestic inflation as India’s imports will be costly.

How India can act as a role model to prevent a bank crisis? 

Read here: SVB, Signature Bank collapse: What are ‘Too-Big-To-Fail’ banks, and what makes Indian banks safe and Why local banks are insulated from SVB ripples

How do India’s and US policies differ?

Covid stimulus Students studying in private universities in the US, who come mostly from rich families, received $5,000 checks from the US government. These types of policies led to the deposits in US commercial banks increasing from $13 trillion to $18 trillion.India’s Covid stimulus was carefully targeted at the poor and vulnerable sections of society. As per Economic Survey 2020-21, “India’s policies focused purely on necessities”.
Inflation TargettingA sharp rise in inflation forced US Fed to pursue the most aggressive rate hike in four decades (about 5% in just six months).The RBI and the government have worked in unison ever since the pandemic to control inflation.
OutcomeCreated heavy losses for banks.Insulated banks from losses.

What should be done to avert a bank crisis?

Read here: Silicon Valley Bank crisis: Reasons and Impacts - Explained, pointwise


Print Friendly and PDF