Inflation Eases as Fed Confronts Bank Failures Consumer prices rose 6% last month from a year earlier, the slowest pace since September 2021, as the central bank contemplates its next interest rate move.

The consumer-price index, a closely watched inflation gauge, rose 6% in February from a year earlier, down from a 6.4% gain the prior month, the Labor Department said. It was the smallest increase since September 2021. When excluding volatile food and energy costs, prices advanced a slightly slower 5.5%. (…)

Core prices increased by a seasonally adjusted 0.5% in February, the largest monthly gain in five months. Shelter costs rose 0.8% over the month, matching the largest monthly gain since the 1980s. (…)

For U.S. consumers, inflation on CPI-Essentials at 8.0% YoY still substantially exceeds wage growth (5.3%), a negative gap persisting since November 2021. No wonder the sharp increase in the labor force nobody is talking about.

CPI ESSENTIALS vs WAGES

The long awaited and widely forecast decline in rentflation has yet to materialize.

(Bespoke)

CPI-Services ex-Shelter did slow down to 0.24% in February but is still up 5.1% annualized in the last 3 months and is up 6.9% YoY.

Fed Will Walk a Tightrope Between SVB, Inflation There’s nothing like bank failure to change the risk calculus, but the latest CPI numbers give the Federal Reserve little reason to not hike rates.

(…) Digging through the measures that different branches of the Fed compile to grasp the breadth of inflation tends to confirm that generalized price pressure remain very high. The Cleveland Fed’s measure of the trimmed mean (in which outlier components in either direction are discarded and an average taken of the rest) is barely below its January level, and still above 6%. Its measure of the median has topped 7% for the first time.

Meanwhile, the Atlanta Fed divides the CPI into components whose prices are flexible, meaning they can be moved up or down quickly with little difficulty, and those that are sticky, where price rises take a while to prepare and are hard to reverse. In 2021 and early 2022, the resurgence of inflation was almost entirely about flexible pricing. Now, sticky price inflation is actually higher than flexible, and remains at an elevated level. This is exactly what the Fed will have wanted to avoid, as it implies that inflationary psychology is becoming ingrained.

(…) it’s noticeable that inflation has dipped quite significantly if shelter prices are excluded. It’s also a little disconcerting that sticky prices picked up last month, whether or not shelter was included. (…)

If we look at the Zillow Rental Index, which is based on each month’s new leases, a different picture emerges in which inflation is already dropping dramatically — although it did tick back up into positive territory in February. On the face of it, there is every reason to assume that shelter inflation will soon start to decline in the official data, which should mean that headline inflation also comes down. (…)

There’s nothing in this report to suggest that inflation is defeated already, or to justify leaving rates unchanged. Not to raise the fed funds rate next week, with median inflation above 7%, would be a sign of panic, as Jonathan Levin points out. That doesn’t mean that it won’t happen. But if the Fed leaves rates on hold, it will be because the problems of the banking sector have forced it to do so. (…)

Condensing much frantic debate, the latest macro data give no real excuse for the Fed to decide against hiking its target rate at all when the Federal Open Market Committee meets next week. Meanwhile, its remit to safeguard financial stability strongly suggests that it would be unwise to hike less than two weeks after introducing a new lending facility to rescue bank depositors. The effect of the rescue should be to tighten financial conditions, and therefore slow the economy, somewhat more than had previously been expected. (…)

• Moody’s changes outlook on U.S. banking system to ‘negative’ after SVB collapse

Bank runs at Silicon Valley Bank, Silvergate Capital Corp (SI.N) and Signature Bank (SBNY.O) have deteriorated the operating environment for the sector that is now battling a crisis of confidence, both from investors and depositors, the ratings agency said.

Lenders that had “substantial” unrealized securities losses and uninsured deposits may be hurt more as customers look for safer alternatives to park their funds.

• S&P says not seen rampant deposit outflows to merit rating action

S&P has not placed other U.S. banks on CreditWatch negative since First Republic Bank as it has not seen widespread deposit outflows, the ratings agency said on Tuesday, hours after Moody’s cut its outlook on the U.S. banking system to negative.

(…) S&P said it had not seen evidence that the unmanageable deposit outflows seen at a few banks had widely spread across the banks it covers.

S&P said U.S. regulators’ measures gave banks additional liquidity, although the ratings agency cautioned that conditions were fluid and that some banks were showing greater signs of stress than others.

Credit Suisse shares sink to all-time low after top investor rules out more funding

NFIB: Expectations for Better Business Conditions Remain Low

China’s Economy Rebounds, Spurred by Consumption Data suggest China’s expected recovery is broadly on track after the country’s zero-Covid exit, adding to signs of resilience in the global economy.

(…) Retail sales in China grew 3.5% in January and February compared with the same period last year, marking a sharp turnaround from the 1.8% annual contraction recorded in December, China’s National Bureau of Statistics said Wednesday.

Industrial production in the first two months rose 2.4%, up from a 1.3% increase in December. Investment in fixed assets such as infrastructure and machinery increased 5.5%.

China’s statistics agency combines major economic indicators for January and February to avoid distortions from holidays around Lunar New Year, when businesses take a break and workers head home for family reunions. (…)

The unemployment rate in urban areas stood at 5.6% in February, slightly higher than January’s 5.5%, the statistics bureau said Wednesday, though it added that the change likely reflected seasonal factors as workers change jobs during the Lunar New Year holidays. Youth unemployment remained high, with 18.1% of those surveyed aged 16 to 24 out of work. (…)

Consumer prices in China rose just 1% on the year in February, down from a 2.1% increase in January.

SENTIMENT WATCH

• Another new low print for JPM’s survey…”Are you more likely to increase or decrease equity exposure…” (The Market Ear)

JPM

Tether Becomes Unlikely Crypto Winner in Banking Crisis The stablecoin’s market cap has risen 10% this year

So far this year, tether’s market cap has risen 10% to $73 billion while that of its chief rival, USD Coin, fell by more than 11% to $39 billion, according to CoinMarketCap data. Binance USD has fallen by almost half to just over $8 billion. (…)

The shift away from USD Coin, which markets itself as the most transparent and regulated stablecoin, marks a sharp reversal of market conditions last year when the collapse of algorithmic stablecoin TerraUSD spooked investors, leading them to redeem billions of tether and switch to USD Coin. (…)

Tether is the best-known and most widely traded stablecoin—a breed of cryptocurrency that converts to and from dollars at a fixed price. Despite its tenure, the coin has faced controversy over the transparency of its operations and lack of information on how it invests the reserves that back its cryptocurrency. (…)

However, tether’s lack of transparency might be working in its favor right now.

“This is a validation of what we know about money and things that try to be money—which is when you provide too much information, you are susceptible to runs,” said Steven Kelly, a researcher at Yale University’s program on financial stability.

“We knew Circle had exposure to SVB, we found out what it was and there was a run. We don’t really know as much about tether, and it just seems safer for that reason alone,” said Mr. Kelly. (…)

Yet:

Largest weekly outflows on record totalling US$255m

• Digital asset investment products saw outflows for the 5th consecutive week totalling US$255m, the largest single weekly outflows on record representing 1.0% of total assets under management (AuM).
• AuM has fallen by 10% over the week, retracing back to levels seen at the beginning of 2023. The outflows have also wiped out all the inflows seen this year.
• Bitcoin, being the largest digital asset, was the primary focus, seeing outflows totalling US$244m last week.

Generative AI Brings Cost of Creation Close to Zero, Andreessen Horowitz’s Martin Casado Says “I think it’s going to creep into our lives in ways we least expect it,” Mr. Casado said at the WSJ CIO Network Summit.

The value of ChatGPT-like technology comes from bringing the cost of producing images, text and other creative projects close to zero, according to Andreessen Horowitz General Partner Martin Casado.

With only a few prompts, generative AI technology—such as the giant language models underlying the viral ChatGPT chatbot—can enable companies to create sales and marketing materials from scratch quickly for a fraction of the price of using current software tools, and paying designers, photographers and copywriters, among other expenses, Mr. Casado said.

“That’s very rare in my 20 years of experience in doing just frontier tech, to have four or five orders of magnitude of improvement on something people care about,” Mr. Casado said Tuesday at The Wall Street Journal’s CIO Network Summit in Palo Alto, Calif.

On Tuesday, ChatGPT maker OpenAI released GPT-4, the startup’s latest AI language model trained on massive amounts of data, as well as human feedback, to generate natural language response to user prompts. The technology can also write computer code. (…)

Though ChatGPT, which is available free online, is considered a consumer app, OpenAI has encouraged companies and startups to build apps on top of its language models—in part by providing access to the underlying computer code for a fee.

For businesses, Mr. Casado said, there are “certain spaces where it’s clearly directly applicable,” such as summarizing documents or responding to customer queries. Many startups are racing to apply the technology to a wider set of enterprise use cases, he said.

But Mr. Casado said GPT-4 and other generative AI tools are less likely to be successful when retrofitted to an existing business model. Instead, he expects the technology to spark entirely new businesses and organizations.

• What Is ChatGPT-4 and How to Use It: Everything You Need to Know

(…) OpenAI says it has spent the past six months making the new software safer. It claims ChatGPT-4 is more accurate, creative and collaborative than the previous iteration, ChatGPT-3.5, and “40% more likely” to produce factual responses. (…)

A user will have the ability to submit a picture alongside text — both of which ChatGPT-4 will be able to process and discuss. The ability to input video is also on the horizon. (…)

OpenAI said in a blog post that the latest iteration “still has many known limitations that we are working to address, such as social biases, hallucinations, and adversarial prompts.” (…)

• GPT-4 debuts and Google beats Microsoft in race to add generative A.I. to consumer office tools

(…) my initial take is that GPT-4 looks like a big step forward, but not a revolutionary advance over what OpenAI and others have been racing to put into production over the past two months. And it will only heighten the debate about whether tech companies, including OpenAI, are being irresponsible by putting this powerful technology in the hands of consumers and customers despite its persistent flaws and drawbacks.

Meanwhile, Microsoft is expected to unveil a range of A.I.-powered enhancements to its Office software suite on Thursday. And Baidu, the Chinese search giant, has a big announcement scheduled for later this week. Google, which was caught flat-footed by the viral popularity of ChatGPT and OpenAI’s alliance with Microsoft, is eager to prove that it’s not about to be sidelined in the A.I. race. And the big news today before OpenAI’s GPT-4 announcement was that Google had beaten Microsoft out of the gate with a bunch of big A.I. announcements of its own.

For most people, the main news is that the search giant said it is adding generative-A.I. features to its popular Workspace productivity tools, such as Google Docs, Sheets, and Slides. Among the things people will now be able to do is use a text box to prompt Google’s A.I. to automatically draft almost any kind of document, or to create different kinds of charts for Sheets data. Users can highlight text and ask Google’s A.I. to edit it for them or rewrite it in a different tone and style. You will also be able to automatically draft emails or summarize entire email threads in Gmail. In Google Meet you will be able to generate new virtual backgrounds and automatically create notes of conversations, complete with summaries.

But equally important was the other news Google announced: The company is allowing enterprise customers to tap its most advanced family of large language models—called PaLM —through an application programming interface on Google Cloud. (…)

Moody’s Puts First Republic, Five US Banks on Downgrade Watch Concerns are growing for regional banks.

Western Alliance Bancorp., Intrust Financial Corp., UMB Financial Corp., Zions Bancorp. and Comerica Inc. were the other lenders put on review by Moody’s. The credit rating company cited concerns over the lenders’ reliance on uninsured deposit funding and unrealized losses in their asset portfolios. (…)

San Francisco-based First Republic dropped a record 62% on Monday, while Phoenix-based Western Alliance tumbled an unprecedented 47%. Dallas-based Comerica slid 28%.

In the case of First Republic, Moody’s said its share of deposits that exceed the Federal insurance threshold make its funding profile more sensitive to rapid, large withdrawals. (…)

First Republic said earlier that it has enhanced and diversified its financial position through access to additional liquidity from the Federal Reserve and JPMorgan Chase & Co.

• JPMorgan, other big U.S. banks flooded with new clients post SVB collapse-FT Even the U.S. government’s emergency measures to stop the collapse of more banks have not stopped depositors from trying to move their accounts to larger banks or to shift to money market funds, FT reported.
• Bank share sell-off spreads to Japan as SVB collapse shakes markets
• The fallout from the SVB situation is still fluid, and we do not believe that this is a Lehman moment. It may, however, be a Bear Stearns moment. The risks in the market that catalyzed the SVB collapse are still out there. Regulators have given financial market participants a break by backstopping the SVB depositors and creating the BTFP. Investors must remain alert to the disintermediation risks that have been brought on by the Fed’s unrelenting and ongoing quantitative tightening.  Complacency is the investor’s enemy. (Guggenheim Partners Investment Management)

Michael Lewitt, The Credit Strategist:

The government reached the best possible solution for the current banking crisis. Taxpayers – at least not directly – will not be bailing out these banks. Instead, a special fund paid for by other banks will pay the freight. Of course, banks will likely pass through the costs to their customers but that is preferable to another taxpayer bailout. The stockholders, bondholders and management of these institutions are not being bailed out as in previous debacles which is appropriate. Hopefully we won’t see the same executives recirculate to cause future damage as occurred here with former Lehman and Deutsche Bank executives manning important risk management and related posts at SIRV. The art of failing upward is one of the most depressing characteristics of the financial industry and we need to hold people accountable for their serial incompetence.

This crisis may trigger the next leg down in the bear market because it should highlight to even the most thick-headed among us the lagged effects of monetary policy. It will be even harder to argue that the system can simply shrug off higher interest rates without structural damage. The only thing that can save bulls now is a reversal of Fed interest rate hikes which are highly unlikely unless we see a broader banking collapse. The Fed may pause interest hikes but that is a far cry from reversing them, leaving rates at their current higher levels to work their mischief throughout the system.

David Rosenberg:

Most of the above has been well covered by the mainstream media but one critical implication has not been — the impact on the real economy from having trillions move out of bank deposits into government securities like T-bills. This is because in a fractional banking system such as ours, banks can use $1 of deposits to make $10 of loans. Conversely, money placed in government securities is, by comparison, fairly inert. Thus, a significant reduction in deposits is a massive problem.

One of my most confident calls right now is that trillions are in transit from bank deposit vehicles into government securities. If I’m correct, that’s a highly disinflationary development as it will crush money velocity once again. Basically, high-octane money is being shifted into low-octane mode. Consequently, it’s also exceedingly economic-growth inhibiting. For the time being, bank lending is very likely to be seriously impaired. Dismiss that risk at your great peril.

Prior to Friday, there was a legitimate debate as to whether a recession was imminent. Last week’s cataclysmic events seal the deal, in my view. The yield curve has not only proved prescient once again, but has demonstrated it is more than just predictive — it can actually be a prime catalyst causing an economic contraction.

A plausible positive counterargument is that the money will simply flow to the “too-big-to-fail” institutions, such as JP Morgan. That’s probable, possibly even a certainty, but it misses the crucial point: Almost no sentient person or company CFO will leave substantial sums in non-government-backed status at any bank. Consequently, the aforementioned money velocity is likely to have a wicked downside reversal after having perked up in recent years.

Yesterday, I posted this ING chart. Banks were already tightening their lending standards. They are unlikely to loosen them even with all that cash moving their way.

Source: Macrobond, ING

• If the 2-year yield declines another 11 bps today, it will be a bigger 3-day decline than the 1987 crash. Other 3-day declines of 100+ bps in 2-year yield took place when rates were much higher. In Oct 1987, the 2-year yield was double the current yield, and in the early 1980s it was more like triple current level. (@bespokeinvest)

• Interest rate futures now price in a 4% policy rate by the end of the year, down from a 5.56% guesstimate last Wednesday as well as from the current 4.57% effective rate.

Meanwhile, in this other magical world, “money” velocity is also slowing:

Crypto in many ways used to be a 24/7 market, but the escalating crisis among a set of small U.S. banks has upended that.

Regulators’ abrupt closure Sunday of Signature Bank following Silvergate’s shuttering last week knocked out the two biggest crypto-friendly banks and also means the round-the-clock payment systems both offered have disappeared.

Some signs of problems have already started to emerge. Crypto exchange Okcoin said that Signature was its primary bank for USD deposits, and temporarily paused U.S. dollar deposits along with wire and ACH transfers. And BCB Group, a U.K.-based bank, said Sunday it has delayed a pilot expansion in the U.S. of its European instant settlement network, originally scheduled for Monday.

Credit Suisse Finds Material Weaknesses in Financial Reporting The Swiss banking giant said in its delayed annual report that there had been material weaknesses in its financial reporting over the past two years because of ineffective internal controls. Its stock continued to fall after hitting a new low Monday.

• Credit Suisse Says Outflows Not Reversed, at Lower Levels The bank confirmed it had also dipped into liquidity buffers as a result of the withdrawals.

FYI:

• The S&P 500 Large Cap Index – 13/34–Week EMA Trend signal has reversed

(TradingView)

• Wilson reiterates his view and sums up his view: “…we view last week’s events as just one more supporting factor for our negative earnings growth outlook…In short, Fed policy is starting to bite, and it’s unlikely to reverse even if the Fed were to pause its rate hikes or quantitative tightening…i.e., the die is cast for further earnings disappointments relative to consensus and company expectations.” (The Market Ear)

MS

  China’s Xi Plans to Speak With Zelensky for First Time Since Ukraine War Broke Out Conversation would likely follow the Chinese leader’s meeting with Russia’s Putin next week