Nobel economist Paul Krugman warns of recession as banking fears rise – but brushes off ‘apocalyptic warnings’ and fears of another financial crisis

• Paul Krugman warns that banking chaos has increased the risk of a US recession.
• The Nobel Prize-winning economist advised the Fed to hike interest rates again.
• Krugman cautioned that cutting rates could signal to investors that regulators are getting nervous.

Paul Krugman has said that the US banking turmoil has increased the likelihood of a recession, so the Federal Reserve should hold off on tightening its grip on the economy for now.

“Everyone is wondering what other landmines there might be,” the Nobel Prize-winning economist wrote in his New York Times column on Tuesday.

He was referring to the sudden collapses of Silicon Valley banks and Signature Bank, the government-backed takeover of Credit Suisse by UBS and mounting pressure on First Republic Bank. Fears of further catastrophe have rattled financial markets in recent days.

Krugman dismissed “apocalyptic warnings about hyperinflation and the imminent collapse of the dollar”, noting that depositors pulling their money out of banks usually relieve upward pressure on prices.

He clarified that economic conditions should be tightened by people moving their cash to larger banks and money market funds. More stringent regulations and stricter capital and liquidity requirements mean those institutions engage in less business lending than small and medium-sized banks.

In addition, Krugman noted that the threat of further bank runs could scare away lenders, prompting them to lend money more cautiously.

“We’re probably looking at a severe credit crunch,” he said, likening the economic impact of the Fed raising interest rates to tighter lending.

“Clearly recession risks have increased and inflation risks have decreased,” he continued. As a result, he proposed that the Fed should refrain from further rate hikes until the fallout from the banking meltdown was clear.

In response to historic inflation, the US central bank has raised interest rates from near zero to 4.5%. Wall Street analysts expect another hike of 25 basis points to be approved on Wednesday, despite the current turmoil in the banking sector.

Unlike Elon Musk, Krugman did not support an immediate rate cut. The former Princeton and MIT professor cautioned that “could convey a sense of panic,” though going ahead with further increases would imply a “sense of ignorance.”

Krugman praised regulators for their handling of the banking mess so far, particularly their swift intervention to protect depositors of SVB and Signature. He also dismissed concerns about systemic risks arising from the chaos.

“It doesn’t look like a full blown financial crisis,” he said. “Stay though.”

Source: markets.businessinsider.com