Regional banks face prolonged stress as the Federal Reserve raises interest rates to combat inflation, according to a former top regulator at the central bank.

Randal Quarles, vice chairman for supervision at the Fed from 2017 to 2021, said Friday that the central bank's efforts to tighten monetary policy would strain regional banks heavily reliant on short-term funding.

"This is not over," Quarles said at a conference staged by the Hoover Institution. "Interest rates will stay higher than many are currently expecting them to stay for longer, and the consequences of that will be that this pressure will remain on this category of institutions for longer than we are currently expecting."

Quarles' comments come as regional banks have been under pressure in recent months. Shares of regional banks have fallen sharply this year, and some banks have been forced to raise capital to shore up their balance sheets.

Quarles said that the Fed should consider changing its regulations to make it easier for regional banks to access long-term funding. He also said that the Fed should be prepared to provide liquidity support to regional banks if they face a funding crisis.

"We need to rethink how we handle liquidity at the Fed," Quarles said. "This requires rethinking how we handle liquidity at the Fed."

Quarles' comments are a sign of the growing concern among regulators about the health of the regional banking sector. The Fed is expected to continue raising interest rates in the coming months, and these rate hikes could strain regional banks already facing headwinds from the economic slowdown.

Key Points

  • Regional banks rely heavily on short-term funding, making them more vulnerable to rising interest rates.
  • The Fed's tightening monetary policy could strain regional banks' balance sheets and profitability.
  • Some regional banks have already been forced to raise capital to shore up their balance sheets.
  • The Fed should consider changing its regulations to make it easier for regional banks to access long-term funding.
  • The Fed should also be prepared to provide liquidity support to regional banks if they face a funding crisis.

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