Inflation remains too high, and the Federal Open Market Committee (FOMC) is firmly committed to bringing it down to our 2 percent objective.
But the pursuit of price stability, never easy, has become even more complicated by turmoil in the banking system earlier this year. A few high-profile bank failures and difficulties at certain other institutions raised fears that liquidity concerns could spread throughout the banking system and create financial instability. In response to those concerns and slowing economic activity, many lending institutions have tightened credit standards—they’ve become choosier in deciding whether to lend money to prospective borrowers.
It is important to note that widespread credit tightening does not constitute financial instability. Instability in the financial system means markets are shutting down, bank runs are ongoing, and capital is not flowing where it is needed to fuel economic activity. We are not at that precarious place. The contagion we feared might emanate from the turmoil that surfaced in March has so far not materialized. The banking system has not been shaken and institutions in our district by and large report solid liquidity and capital positions.
Should conditions worsen and financial instability concerns increase, the Federal Reserve maintains tools, including the Bank Term Funding Program, to blunt the likelihood of bank runs and ensure that households and businesses can get the financial support they need from their banks.
Tighter bank lending standards, in fact, are a byproduct of restrictive monetary policy. This is how it’s supposed to work. The financial system that distributes capital to businesses and households is the primary means through which Fed policy affects the real economy. Economists call this the “policy transmission channel.” Basically, the Committee raises the federal funds rate, which is the rate banks charge one another for overnight loans from their reserves held at the Fed. In turn,…
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