Is the Fed responsible for the collapse of Silicon Valley Bank?

By now, we all know what happened to Silicon Valley Bank – in the age of social media, you just can’t escape it even if you wanted to. Over the last week, almost every tweet in my feed has been about Silicon Valley Bank and the regional bank crisis in the US. There are numerous opinions on what led to this failure, from poor risk management to blaming the Fed for raising interest rates and everything in between.

However, there is one myth that I want to dispel – it is the argument that if the Fed had not raised interest rates, the bank would not have suffered losses in its long maturity fixed rate assets and thus, would not have led to a run on the bank. This is a classic case of first order thinking. Yes, the Fed did increase the federal funds rate. But have you wondered, what would have happened to treasury bonds if the Fed had maintained its policy stance of record low interest rates in the face of high inflation?

Below is a chart of the 10-year US Treasury Bond Yield along with the Federal Funds Rate. After hitting a low of 0.5% in July 2020, the 10-year yield started rising well before the first Fed rate hike in March 2022.

We can never know for sure but I have a hunch that the 10-year bond yield would have risen far higher in the face of high inflation if the Fed had kept monetary conditions loose. The 10-yr is a market determined rate and the FED DOES NOT CONROL THE IT. Given that Silicon Valley Bank was holding long dated fixed rate assets, these would have declined in value even further.

When regulators adopt policies that are incoherent with fundamentals, there’s only so much leeway the market will give them to correct their stance. Eventually, fundamentals catch up.