First Quarter 2023 Economic Review and Forecast

The year 2022 was challenging for investors, as both the S&P 500 and long-term bonds declined by double digits, the first time in the modern era. The economic signals and a host of geopolitical risks confronting investors suggest that 2023 could be similarly challenging for both stocks and bonds. The markets were hit with a shock to the financial system when Silicon Valley Bank (the 16th largest, with more than $200 billion in assets) and then Signature Bank (with more than $100 billion in assets) failed and had to be taken over by the FDIC. Their failures, and the fears of a run on banks, had a major impact on bond markets.

The heightened risks to the financial system impacted the Fed’s actions in its fight to contain inflation. It was expected to increase rates by 0.5% on March 23. However, its concerns about financial fragility in the banking system led the Fed to raise rates by 0.25%. In addition, while noting that some additional policy firming might be appropriate, it omitted prior language forecasting “ongoing increases.” The “dot plot” of rate forecasts showed a 5.1% median estimate for the Fed funds rate at year’s end, unchanged from the last update in December. The Fed also slightly lowered its forecast for economic growth in 2023 from 0.5% to 0.4%; and next year growth is forecasted at 1.2%, down from 1.6%. With these facts in mind, we’ll examine what led to the second largest banking failure in U.S. history.