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The Federal Reserve is About to Change its Monetary Policy. Is Your Credit Union Ready?

Posted: Feb 1, 2022 | Author: Richard Cranfill, Catalyst Strategic Solutions ALM Consultant

Since the spring of 2020, the Federal Reserve has added trillions of dollars to its balance sheet by making monthly bond purchases of $120 billion. Hand in hand with the bond buying program, the Federal Open Market Committee (FOMC) lowered the fed funds borrowing rate to 0-0.25 percent. These actions, along with fiscal stimulus provided by the federal government, had the effect of bolstering credit union deposits. This caused downward pressure on capital levels and squeezed margins.

At their November meeting, the Federal Reserve revealed they will begin to taper their asset purchases – a program that started at the onset of the COVID-19 pandemic and should conclude mid-summer of 2022. Federal Reserve Chairman Jerome Powell stated that the Fed would reduce U.S. Treasury purchases by $10 billion and mortgage-backed securities (MBS) by $5 billion. In December, the Fed stated that it would double the proposed pace of the taper to $20 million and $10 million respectively. This is the first step toward a tighter monetary policy as the Fed attempts to keep long-term inflation in check.

Does this mean that rate hikes are also on the table for 2022?

Back in November, Chairman Powell stated that tapering bond purchases would not be linked to rate changes. However, despite Chairman Powell’s statement, some believed the market should prepare for one or possibly even two rate hikes mid-to-late 2022. As events have played out since that time, it now seems that 2 rate hikes for 2022 may be more likely than not. Credit Union management teams should plan accordingly.

How will the Federal Reserve’s latest announcement impact credit unions and their members?

Let’s look at the effects from the most recent tapering in 2013. Yields on the 10-year U.S. Treasuries rose from approximately two percent in May 2013 to around three percent by December 2013, and bond spreads widened. Generally, an increase in the 10-year U.S. Treasury indicates higher mortgage rates are likely. Additionally, an increase in the 10-year U.S. Treasury note reveals decreasing demand for Treasury bonds in lieu of riskier and higher-yielding investments.

Another issue credit unions may face is pressure to elevate non-term share rates if loan demand improves. However, this could hinge on how quickly the current supply chain issues are resolved. If loan demand grows, we will see more competition for deposits. In turn, credit unions could start to see members closely monitoring deposit rates and looking for higher dividends, which could lead to liquidity concerns in 2022-2023 as the Fed tightens its stance.

Credit union management should consider leveraging the numerous resources available to them to help formulate a strategy for navigating these upcoming changes in monetary policy. Sound balance sheet strategy and preparation are the keys to a smooth transition as the Fed changes course in the coming years.

So…will your credit union be prepared?

Catalyst Corporate’s knowledgeable team of ALM experts and Advisors stand ready to help assess your preparedness for the Fed’s upcoming monetary changes. For more information, contact us today.

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