Fed Report: "Despite generally strong conditions, Council members reported stark differences in economic impact between the “haves” and the “have nots.”"

"Wealthier parts of their markets are not yet slowed by inflationary pressures, while lower-income households are feeling the squeeze."

Source: https://www.federalreserve.gov/aboutthefed/files/CDIAC-meeting-20221117.pdf

Community Depository Institutions Advisory Council:

The Community Depository Institutions Advisory Council (CDIAC) was established in 2010 by the Board of Governors to provide input to the Board on the economy, lending conditions, and other issues of interest to community depository institutions. Unlike the Federal Advisory Council, CDIAC is not a statutory body, but it performs a parallel function in providing first-hand input to the Board on the economy, lending conditions, and other issues. Members are selected from representatives of banks, thrift institutions, and credit unions serving on local advisory councils at the twelve Federal Reserve Banks. One member of each of the Reserve Bank councils is selected to serve on the CDIAC, which meets twice a year with the Board in Washington.

Record of Meeting Community Depository Institutions Advisory Council and the Board of Governors November 17, 2022:

Overall Economic Conditions: How do Council members assess overall economic conditions in their regions?

• Council members reported strong economic conditions as measured by spending, though there are concerns that strong inflationary pressures may at some point undermine real spending.
• Council members, particularly in the Fourth District, reported that the return of production and manufacturing from offshore locations is helping the economy with significant investment in manufacturing and capital expenditure.
• Despite generally strong conditions, Council members reported stark differences in economic impact between the “haves” and the “have nots.”
• Wealthier parts of their markets are not yet slowed by inflationary pressures, while lower-income households are feeling the squeeze.
• The possibility of a recession remains a concern, but so far declines in overall spending are not evident.
• Despite being vocal about price increases, consumers are continuing to spend.

Inflation: Are the prices o for products and services rising (or declining) more or less quickly than in the recent past? Are the prices for the products and services Council members purchase rising more or less quickly?:

• Council members generally reported that inflationary pressures remain strong, with prices rising rapidly.
• Some Council members reported early signs of inflation softening for some goods in certain sectors.
• Despite rising prices, customers and businesses have not yet pulled back on spending.
• Council members summarized sentiment as a lot of optimism about the economy coupled with much uncertainty about the future because there is an expectation that inflation will have a long tail that has yet to be fully absorbed.
• Drivers of inflation remain mixed.
• **Wage inflation is one key driver, particularly in the services sector, with employees expecting higher wages to keep up with inflation. (**this is not slowing down presently either! https://www.reddit.com/r/Superstonk/comments/127pdic/inflation_alert_the_feds_preferred_inflation/)
• Firms that want to retain talent in a tight labor market anticipate salary increases of 5-9% next year.
• Council members reported double-digit increases in insurance costs, with some insurers exiting markets along the Gulf Coast.
• Supply chain issues persist and are another significant contributor to inflation, particularly in the manufacturing and goods-producing sectors.
• The drought in the Midwest and the low Mississippi River levels also contributed to a supply chain backup of both agricultural commodities moving downstream to export markets and raw materials moving upstream for manufacturing and agricultural production. (we have talked about this previously: https://www.reddit.com/r/Superstonk/comments/zzh5jx/inflation_alert_from_the_transportation/)
• This had a strong effect in several Districts that are reliant on the upper parts of the river.
• Council members also highlighted lingering effects of supply chain issues— some of which were caused by labor shortages—from the pandemic on construction.
• Some areas are experiencing a shortage of concrete and electric transformers (with one-year wait times).
• The apparent randomness of these shortages is likely contributing to further uncertainty among households and businesses.
• In other cases, Council members noted that some firms have realized that they are able to maintain margins by raising prices.
• Council members reported that auto dealers still have strong pricing power with high prices and little negotiation.
• Most businesses are passing a high percentage of cost increases downstream to consumers, which generally was not the case last year.
• However, Council members have observed early signs of a potential shift in this dynamic. For example, market-dominant retailers such as Walmart and Target are now pushing back on vendors, seeking justification for further price increases.
• The most acute effects of inflation are being felt in rural and lower-income areas, with higher gas and diesel prices squeezing the wallets of consumers and businesses, particularly smaller farm operations and other industries that use diesel-fueled equipment.
• While prices for some commodities (such as aluminum and lumber) have fallen, that softening has often been offset by higher transportation costs.
• Prices for trucking and transportation have declined but remain high—and those higher prices are being passed on to consumers.
• The Council also reported that some consumers and businesses have become more focused on interest rates than inflation, which has resulted in real estate sales and development and capital expenditures being compressed by the higher interest rates.

Housing: How have home prices changed in recent months? Have there been any changes in overall housing activity in Council members’ Districts?:

• Strong demand coupled with low inventory have kept home prices stable.
• However, price appreciation has slowed or even declined somewhat in parts of the country.
• Buyer activity has slowed down as mortgage rates have increased.
• Council members reported that the days of frenzied buying are over.
• Buyers are taking more time, and homes are sitting on the market longer.
• However, conditions have not returned to pre-pandemic levels.
• The shortage of available homes continues to constrain the market for buyers.
• Many homeowners sitting on sub-4% mortgage rates are essentially locked into their homes and will be unwilling to sell their home if it means that their next mortgage will be near 7%.
• This shortage has had cascading impacts across markets. Housing remains unaffordable for many low- to moderate income and first-time homebuyers who are now locked into the rental market.
• While multifamily construction has been strong, Council members reported that rental rate increases continue to exceed overall inflation in many markets.
• Housing shortages are also impacting the upper end of the income distribution in some markets. For example, Council members noted that some hospitals are having challenges filling vacancies because of a lack of housing suitable for higherincome health professionals.
• Multifamily construction has been so strong that some Council members reported that municipalities have had to tap the brakes on new developments because municipal infrastructure cannot keep up.
• Meanwhile, single-family construction is slowing as builders finish their existing projects without lining up new ones because profit margins are too narrow or unpredictable to justify new builds.
• Buyers are choosing to purchase larger homes instead of ordering premium finishes and features that in the past have increased profit margins for builders.
• There is some variability by region. In-migration from high-cost-of-living metro areas into rural areas has driven up costs in those rural areas while urban areas see softer prices.
• In a mixed bag, some Districts reported fewer institutional investors and house flippers buying up properties, while others continue to see an influx of investors for multifamily housing based on strong demand (and increases in rental rates.

Labor Markets: How have the labor markets in which Council members operate changed in recent months? In particular, please assess the degree o f job loss or gain (and, in which industries). Please comment on the changes to wages that Council members have observed over the pastyear.:

• All Council members reported that increased labor costs and the labor shortage are affecting both their financial institutions and their business customers.
• The labor shortage is a primary concern of bankers and a major driver of inflation. Businesses that are not raising their wages fast enough to retain workers and attract new ones are losing their employees to other firms.
• There was broad consensus that several industries, such as the healthcare and daycare industries, are facing more severe shortages.
• Shortages in these sectors are having broader impacts.
• With fewer options for daycare or eldercare, more prime-age workers are being forced to remain on the sidelines.
• In some parts of the country, daycare now costs nearly $500 a week, which is typically much more than what many young employees with children make.
• The price and availability of daycare will remain a major barrier for labor force participation.
• Even manufacturers with capital and contracts in hand cannot find workers to fulfill the contracts.
• Council members noted that the labor shortage is not transitory and will be a reality for businesses into the longer term.
• The decline in labor force participation has been a long-term demographic trend exacerbated by the pandemic and the transmission path of inflation to wages.
• Council members also noted that employers are still digesting the (1) ability for workers to work remotely and (2) increased participation of younger generations in the workforce that have different views, compared to older generations, of their relationship with work.
• Several Council members noted an increased desire for immigration reform to offset the structural shortage of labor.
• The opioid crisis was also named as a key driver of labor shortages in some areas, and a major causal factor in many geographies with the lowest labor force participation rates.
• Most businesses remain hungry for labor.
• In reaction to these pressures, Council members reported increased investment in equipment to make up for labor shortages across sectors.
• However, Council members also reported the beginning of layoffs in some markets in their region, which is a harbinger of a slowing economy.

Consumer Confidence: Are Council members seeing any signs o fimproved (or declining) consumer confidence? What is the outlookfor consumer credit losses?:

• Council members reported a disconnect between consumer behavior and reported confidence.
• While inflation has reduced confidence, consumers are still spending.
• However, increases in spending on services has been hampered by labor shortages in that sector.
• The consumer confidence divide is vast between the “haves” and “have nots”
• For those on the upper end of the income distribution, folks are complaining but still spending.
• There is greater confidence among consumers with higher levels of discretionary income, who, as a result, feel insulated from rising prices.
• Holiday spending, possibly driven by pent-up demand, is expected to remain strong for these consumers. Purchasing activity may not fully reflect consumer pessimism.
• For low- to moderate-income households, rising utility bills and food prices have eaten into both their savings and purchasing power.
• Energy prices are a major concern as we enter winter, and the cost of heating oil is a concern in the Northeast.
• It was estimated that for minimum wage workers, 70% of their money goes to essentials (e.g., food, energy, transportation). Lowerincome households are cutting back on discretionary spending, and in many cases, they are being forced to make difficult choices about which monthly essentials they can afford.
• Council members reported that consumer delinquencies remain minimal but are starting to slowly creep up.
• Most institutions expect losses to increase in 2023.
• Some Council members have observed significant deterioration in the mobile home portfolio and others have observed some weakness in auto loans.
• While delinquencies remain relatively low, lower used-car prices have resulted in losses for repossessed autos.

Deposits: What changes have Council members seen in local deposit markets? Describe these changes by segment (retail, small business, and corporate). What are Council members' expectations with respect to deposit levels?:

• Some Council members reported an outflow of deposits on the commercial side, but most Council members have not yet seen a significant decline in their consumer deposit base.
• However, consumer deposits are expected to run off soon, following a strong growth during the pandemic.
• Deposits have been surprisingly sticky even as nonbanks offer higher interest rate CDs and money market accounts to attract deposits.
• Banks have not repriced deposit rates in parallel with the rapid rate hikes of the Federal Reserve, and Council members reported wide variability in the degree that banks have raised deposit rates.
• Marketing, social media, and consumer pressures are expected to contribute to an acceleration of deposit pricing pressures.
• Council members noted that differences in bank deposit rates stem from how institutions managed the excess liquidity gained during the pandemic.
• Banks that more aggressively deployed deposits into investments are now competing for deposits to maintain liquidity, while banks that invested less aggressively are now sitting comfortably at current deposit levels.
• Council members expect deposits to continue running off in the future, partly due to higher rate alternatives but also because of higher levels of spending as a result of inflation.
• Personal savings rates have fallen significantly and are currently below their pre-pandemic levels, though Council members did report an outflow of deposits into treasury bonds and brokerage accounts.
• Businesses are using their cash to pay down their lines of credit that have much higher rates now and are drawing down commercial deposit levels.

Potential FHLB borrowing limitations and Cryptocurrency:

• Council members expressed concern about the ability of community institutions to continue to borrow from Federal Home Loan Banks (FHLBs) over the short term.
• Council members discussed current balance sheet trends, where most institutions saw a significant inflow of deposits during the pandemic and invested the funds in safe assets, such as treasuries and agency securities.
• Council members are also concerned about the impact the rate hikes are having on their bond portfolios, and, by extension, the increase in unrealized losses that flow through to tangible capital. Under Federal Housing Finance Agency (FHFA) regulations, banks whose tangible capital becomes negative must receive written permission from their primary federal regulators to roll over or utilize new advances.
• Council members noted that bank capital regulations were updated almost 10 years ago to ensure that bank capital is (1) robust, (2) reflects modern banking and markets, and (3) can withstand stress during adverse economic and financial market conditions.
• Council members discussed the downside of using tangible equity, rather than regulatory capital, as a proxy for a bank’s health because the latter is a much more robust measure of risk.
• The Council requested that the Federal Reserve engage in communications with the FHFA and other banking agencies to avoid the risk of an administrative reduction in the ability to borrow from FHLBs, triggered by an exclusive focus on tangible capital, when an analysis of regulatory capital does not indicate the need to reduce FHLB borrowing.
• Council members reiterated their concern that compliance regulations will adversely affect how banks are lending in their communities, both in terms of product variety and innovation and in lending volumes.
• Council members discussed the continued fight against cybercrime and other scams, noting that the types of fraud are changing as criminals are getting smarter and more strategic.
• Council members feel that these are national issues that are not just affecting community depository institutions and large depositories.
• Council members believe that in addition to the fraud prevention practices they are employing, more should be done at the federal level to educate consumers.
• Council members continued to recommend that efforts be made to help community institutions streamline their due diligence process for shared vendors.
• In addition, the Council recommended further development of federal outreach programs designed to increase customer awareness of fraud and cybercrime.
• Council members reported that there have been many recent news stories related to increases in fraud in Person-To-Person (P2P) payment networks.
• They stressed that the fraud is real, and efforts should be made to mitigate risk and reduce depository institution and consumer losses. Council members noted that changes to Regulation E have been proposed.
• Currently, Regulation E provides protections for consumers for unauthorized transactions. There have been proposals to have the CFPB reinterpret Regulation E to include “fraudulently induced but authorized transactions.”
• This would protect consumers who are tricked into paying fraudsters.
• The payments are then authorized by the consumer, who later has second thoughts and wants to retrieve their funds.
• Expanding Regulation E in this manner would affect all consumer payment platforms, but especially P2P services where a lot of this fraud occurs.
• Increases in Regulation E liability could have a stifling effect on bank and credit union adoption of faster payments, including FedNow, due to the increased expense and lack of provisions for offsetting revenue to cover the risks.
• Financial institutions may slow down implementation, stop adoption, or even abandon existing P2P services. Some proposals suggest shifting liability to the receiving bank in these types of transactions, but that would also have a chilling effect on faster payments adoption.
• Right now, joining one of the faster payments networks in “receive only” mode is considered a safe way to get involved in faster payments, without fear of fraud risk.
• Shifting the liability from consumers to the receiving financial institution makes it less likely that the institution would participate in a faster payments network.
• Council members discussed recent developments in the cryptocurrency markets.
• There is strong interest in making these markets subject to robust regulations equivalent to what exists in the United States for securities and derivatives.
• Council members were agnostic about which agency—the CFTC or SEC—is authorized by Congress to conduct oversight.

TLDRS:

There is a TON to take in here but the bullets called out above:

• Council members reported stark differences in economic impact between the “haves” and the “have nots.”
• Council members generally reported that inflationary pressures remain strong, with prices rising rapidly.
• Despite rising prices, customers and businesses have not yet pulled back on spending.
• Council members summarized sentiment as a lot of optimism about the economy coupled with much uncertainty about the future because there is an expectation that inflation will have a long tail that has yet to be fully absorbed.
• Wage inflation is one key driver, particularly in the services sector, with employees expecting higher wages to keep up with inflation. (this is not slowing down presently either! https://www.reddit.com/r/Superstonk/comments/127pdic/inflation_alert_the_feds_preferred_inflation/)
• Firms that want to retain talent in a tight labor market anticipate salary increases of 5-9% next year.
• The drought in the Midwest and the low Mississippi River levels also contributed to a supply chain backup of both agricultural commodities moving downstream to export markets and raw materials moving upstream for manufacturing and agricultural production. (we have talked about this previously: https://www.reddit.com/r/Superstonk/comments/zzh5jx/inflation_alert_from_the_transportation/)
• In other cases, Council members noted that some firms have realized that they are able to maintain margins by raising prices.
• Most businesses are passing a high percentage of cost increases downstream to consumers, which generally was not the case last year.
• The most acute effects of inflation are being felt in rural and lower-income areas, with higher gas and diesel prices squeezing the wallets of consumers and businesses, particularly smaller farm operations and other industries that use diesel-fueled equipment.
• Prices for trucking and transportation have declined but remain high—and those higher prices are being passed on to consumers.
• The Council also reported that some consumers and businesses have become more focused on interest rates than inflation, which has resulted in real estate sales and development and capital expenditures being compressed by the higher interest rates.
• Many homeowners sitting on sub-4% mortgage rates are essentially locked into their homes and will be unwilling to sell their home if it means that their next mortgage will be near 7%.
• This shortage has had cascading impacts across markets. Housing remains unaffordable for many low- to moderate income and first-time homebuyers who are now locked into the rental market.
• Multifamily construction has been so strong that some Council members reported that municipalities have had to tap the brakes on new developments because municipal infrastructure cannot keep up.
• Meanwhile, single-family construction is slowing as builders finish their existing projects without lining up new ones because profit margins are too narrow or unpredictable to justify new builds.
• The labor shortage is a primary concern of bankers and a major driver of inflation. Businesses that are not raising their wages fast enough to retain workers and attract new ones are losing their employees to other firms.
• In some parts of the country, daycare now costs nearly $500 a week, which is typically much more than what many young employees with children make.
• The price and availability of daycare will remain a major barrier for labor force participation.
• Even manufacturers with capital and contracts in hand cannot find workers to fulfill the contracts.
• Council members noted that the labor shortage is not transitory and will be a reality for businesses into the longer term.
• The decline in labor force participation has been a long-term demographic trend exacerbated by the pandemic and the transmission path of inflation to wages.
• It was estimated that for minimum wage workers, 70% of their money goes to essentials (e.g., food, energy, transportation). Lower income households are cutting back on discretionary spending, and in many cases, they are being forced to make difficult choices about which monthly essentials they can afford.
• Council members reported that consumer delinquencies remain minimal but are starting to slowly creep up.
• Most institutions expect losses to increase in 2023.
• Some Council members have observed significant deterioration in the mobile home portfolio and others have observed some weakness in auto loans.
• While delinquencies remain relatively low, lower used-car prices have resulted in losses for repossessed autos.
• Banks have not repriced deposit rates in parallel with the rapid rate hikes of the Federal Reserve, and Council members reported wide variability in the degree that banks have raised deposit rates.
• Marketing, social media, and consumer pressures are expected to contribute to an acceleration of deposit pricing pressures.
• Council members expressed concern about the ability of community institutions to continue to borrow from Federal Home Loan Banks (FHLBs) over the short term.
• Council members discussed current balance sheet trends, where most institutions saw a significant inflow of deposits during the pandemic and invested the funds in safe assets, such as treasuries and agency securities.
• Council members are also concerned about the impact the rate hikes are having on their bond portfolios, and, by extension, the increase in unrealized losses that flow through to tangible capital. Under Federal Housing Finance Agency (FHFA) regulations, banks whose tangible capital becomes negative must receive written permission from their primary federal regulators to roll over or utilize new advances.

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