Last month’s banking crisis in the U.S. could still hurt businesses by making loans harder to come by, but Treasury Secretary Janet Yellen believes it could also help the U.S. economy find its way to a Goldilocks zone, where the growth slows down just enough that inflation peters out, but not so much to collapse.
“I do think there’s a path to bring down inflation while maintaining what I think all of us would regard as a strong labor market, and the evidence I’m seeing suggests we are on that path,” Yellen said in an interview with CNN’s Fareed Zakaria aired Sunday. “I think that what people call a soft landing is possible.”
The economy has been serving up mixed signals on inflation for months. While some key markets are generally cooling down, including housing and energy, others have continued to remain hot. Fed chair Jerome Powell has pointed to the country’s tight labor market as a driving reason behind inflation’s staying power, sparking a debate in Congress about whether reducing inflation is worth the risk of people losing their livelihoods.
But Yellen said that the strong labor market need not be sacrificed just yet, as the failures of Silicon Valley Bank and Signature Bank last month may have done part of the Fed’s job for it. The collapses are pushing other banks to become stricter with lending, and could result in an economic slowdown and a “substitute for further interest rate hikes that the Fed needs to make,” she argued.
“Banks are likely to become somewhat more cautious in this environment,” she said. “We already saw some tightening of lending standards in the banking system prior to that episode, and there may be some more to come.”
While Yellen insisted that the U.S. banking system remains safe and well-capitalized, financial institutions are playing it safe. Around 40% of banks tightened their crediting standards for consumer loans at the end of March, an April Fed survey found, while in recent weeks lenders have also cut back on the overall value of their loans. In a note to clients Sunday, Morgan Stanley’s chief investment officer Mike Wilson said the burgeoning credit crunch represented the fastest decline in lending on record.
While the banking crisis’s impact on the economy and inflation has yet to fully play out, other forces contributing to rising prices have begun softening, Yellen said. The Ukraine invasion last year led to higher energy and food costs worldwide, while the lingering effects of the COVID-19 pandemic meant tangled supply chains, and a semiconductor shortage continued to put upward pressure on car prices. But these shocks are now moderating, Yellen argued, offering the Fed a greater chance of reducing inflation without sending unemployment soaring.
“There are many factors that have been pushing inflation up that have nothing to do with the tight labor market,” she said, mentioning the fading economic impacts of the war and the pandemic. “We’re seeing those supply-chain bottlenecks that boosted inflation, they’re beginning to resolve.”
Yellen isn’t the only optimistic observer of the U.S. economy. Analysts from Goldman Sachs have pointed to the most recent strong labor market data in a note to clients last week as “particularly encouraging” signs the U.S. could still avoid a recession, despite likely facing slower economic growth this year. In a separate GS note also from last week, analysts wrote that while the labor market remains tight, it is cooling from its immediate post-pandemic high. Given that unemployment actually declined slightly last month, it could suggest the labor market is slowing without risking a recession.
Other observers, however, have not been as bullish. JPMorgan CEO Jamie Dimon said the banking crisis was likely over during an interview with CNN earlier this month, but called it “another weight on the scale” that could make a recession more likely, adding that the Ukraine war continues to present a significant risk to the U.S. economy.
Yellen noted that while a soft landing remains a distinct possibility, it is not yet set in stone, as shocks could still make a deeper economic contraction likely. Last week, Yellen emphasized that the U.S. economy was in a strong position while speaking at a press conference during the IMF–World Bank annual meetings in Washington. But she cautioned that the U.S. remains “vigilant to downside risks,” specifically the sustained global economic headwinds caused by the Ukraine war and the unclear extent of the bank collapses’ damage.
“Are there risks? Of course. I don’t want to downplay the risks here, but I do think [a soft landing is] possible,” she said during her CNN interview.
