FRBSF Economic Letters are brief summaries of SF Fed economic research that explain in reader-friendly terms what our work means for the people we serve. This section contains Economic Letters on monetary economics and macro-finance topics.
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Pandemic-Era Liquid Wealth Is Running Dry
Hamza Abdelrahman, Luiz Edgard Oliveira, Adam Shapiro
Households accumulated more liquid assets beginning in 2020 than would have been expected without the pandemic. These “extra” liquid assets have dissipated, but their evolution has differed significantly by income group. While middle- and lower-income households hold substantially less liquid wealth than implied by pre-pandemic projections, the level for higher-income households remains close to its pre-pandemic path. Over the same period, credit card delinquency rates initially dropped and, more recently, have steadily risen as pandemic-era liquid wealth was depleted, especially for middle- and lower-income households.
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Bank Franchise as a Stabilizing Force
Simon H. Kwan, Zinnia Martinez
The banking shock of 2023 stemmed from banks’ exposure to interest rate risk by gathering short-term funds to invest in long-term assets. When interest rates rose rapidly during the monetary tightening cycle, banks incurred significant capital losses on their long-term assets, some of which were unrealized on their financial statements. However, bank franchise value—the present value of all future excess profits—which is also unrecognized, could hedge against the losses and provide some stability. Moreover, the potential loss of franchise value could discourage risk-taking, further stabilizing the banking system.
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Anatomy of the Post-Pandemic Monetary Tightening Cycle
Andrew Foerster, Zinnia Martinez
The Federal Reserve tightened monetary policy rapidly between 2021 and 2023. In addition, a weekly proxy federal funds rate shows that markets perceived the policy stance as tightening significantly even in weeks without explicit policy changes. The proxy rate uses financial market data to infer the broad stance of monetary policy as determined by funds rate changes, forward guidance about projected future rates, and balance sheet changes. Results show that the weekly proxy rate can capture changes that reflect both policy tools and market reactions to changing economic news.
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Why Are Overall Profits Outpacing Financing Costs?
Anton Bobrov, Carter Davis, Alexandre Sollaci, James Traina
Since the 1980s, decreasing interest rates have reduced the cost of financing for publicly traded corporations, which in turn has lowered their cost of capital by more than a third. Data show that their profits have likewise declined. At the same time, however, economy-wide corporate profits have increased substantially. Combining these data indicates that the increase in profits has instead gone to privately held companies. This implies that private companies have either increased their market power or their risk.
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Economic Effects of Tighter Lending by Banks
Vasco Cúrdia
Banks tightened the criteria used to approve loans over the past year. Analysis shows that their tighter lending standards can be partially explained by economic conditions that reduce demand for loans and increase their potential risk, such as policy rate increases and a slowing economy. The unexplained part may reflect a restrained credit supply, specifically related to banks being less willing or able to take on risk. What are the potential economic consequences? Past credit supply shocks have had significant long-lasting effects on unemployment but less impact on inflation.
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How Quickly Do Prices Respond to Monetary Policy?
Leila Bengali
With inflation still above the Federal Reserve’s 2% objective, there is renewed interest in understanding how quickly federal funds rate hikes typically affect inflation. Beyond monetary policy’s well-known lagged effect on the economy overall, new analysis highlights that not all prices respond with the same strength or speed. Results suggest that inflation for the most responsive categories of goods and services has come down substantially from recent highs, likely due in part to more restrictive monetary policy. As a result, the contributions of these categories to overall inflation have fallen.
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Does Monetary Policy Have Long-Run Effects?
Òscar Jordà, Sanjay R. Singh, and Alan M. Taylor
Monetary policy is often regarded as having only temporary effects on the economy, moderating the expansions and contractions that make up the business cycle. However, it is possible for monetary policy to affect an economy’s long-run trajectory. Analyzing cross-country data for a set of large national economies since 1900 suggests that tight monetary policy can reduce potential output even after a decade. By contrast, loose monetary policy does not appear to raise long-run potential. Such effects may be important for assessing the preferred stance of monetary policy.