Yellen: It’s ‘obvious’ that empty office buildings will create banking stress and losses

By Alicia Wallace, CNN

New York (CNN) — High commercial real estate vacancies are expected to create some stress for smaller banks, Treasury Secretary Janet Yellen said Thursday. However, she said she does not see them as causing a systemic risk to the nation’s financial system.

Appearing on the Hill as part of annual testimony before the Senate Banking Committee, Yellen told lawmakers Thursday the exposure of large banks is “quite low,” but there may be smaller banks that are experiencing stress related to high office building vacancy rates, high interest rates and falling valuations.

“It’s obvious that there’s going to be a stress and losses that are associated with this,” Yellen said.

“For some banks this will be a concern, but on balance, the system is well-capitalized,” she said, noting that, overall, the US financial system is sound.

Earlier this week, Yellen championed the nation’s economic recovery from the pandemic as well as regulators’ efforts to stave off a potential bank run last spring after the sudden failure of Silicon Valley Bank.

On Tuesday, Yellen said she does “have a concern about commercial real estate.” She noted that higher interest rates and rising vacancy rates in office buildings have combined to cause problems — especially as real estate loans come due.

These issues in cities with high vacancy rates, according to Yellen, are “going to put a lot of stress on the owners of these properties.”

Yellen also added that she believes the issue is manageable, noting that banking regulators and the Financial Stability Oversight Council that she heads are working closely with institutions on how to meet the needs of borrowers.

The council is also closely monitoring non-traditional banking institutions, specifically non-bank mortgage lenders, Yellen said.

She noted that, unlike traditional financial institutions, non-bank mortgage companies lack access to deposits, are more heavily reliant on short-term financing, risk having their credit lines pulled in stressful times and don’t have access to the Fed’s discount window (which is the central bank’s vehicle to lend directly to banks).

“They tend to have very limited capital and loss-absorbing capacity, and mortgage servicing rights are a less liquid asset,” she said. “There is concern that in stressful market conditions we could see the failure of one of these. This has become very, very significant in the mortgage market.”

Yellen’s congressional testimony this week, however, is coming at a time when some regional banks have come under pressure.

New York Community Bancorp recently disclosed a surprise loss and a spike in loan losses as commercial real estate loans go bad.

The troubled regional lender attempted to reassure investors Wednesday that it has enough cash to stay afloat after the stock shed about 60% of its value over the past eight days and Moody’s Investors Service downgraded the bank’s credit grade to junk.

Shares in the Hicksville-based bank, which acquired $40 billion worth of assets from the collapsed Signature Bank last March, were down 2% Thursday morning.

Confidence in the economy on the rise

Speaking to the health of the US economy, which Yellen acknowledged is outperforming other major global economies, Yellen highlighted how inflation is slowing while wages continue to grow.

“Prices are not rising rapidly anymore,” she said, adding that wage gains exceeding inflation mean that “the median worker in the United States can buy the same typical basket of goods in 2019 and still have $1,400 left over to spend or save.”

However, some of that strong economic data appears to have been “lost in translation” to what Americans are experiencing in their daily lives, said Pennsylvania Democratic Sen. John Fetterman, noting viral videos highlighting pricey McDonald’s meals.

Yellen, in response, said that recent surveys of consumer sentiment show that Americans’ attitudes about the economy and their own financial situations have been improving — especially now that inflation has slowed.

“Sometimes, when people are asked about the economy and how other people are doing, they seem more negative on it, but their own assessment of their own situation as well as their behavior, when it comes to spending or starting small businesses [are more positive],” Yellen said.

Yellen added that small business formation remains strong. In 2023, a record 5.45 million business applications were filed, according to Census Bureau data.

“That’s something that only really occurs when people feel confident about the future of the economy,” she said.

CNN’s Matt Egan contributed to this report.

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