Tuesday 24th March 2020
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The Federal Reserve, racing again to contain mounting economic and financial-market fallout from the coronavirus, unveiled a sweeping series of measures that pushed the 106-year old central bank deeper into uncharted territory.
In a surprise announcement Monday before markets opened in New York, the U.S. central bank said it will buy unlimited amounts of Treasury bonds and mortgage-backed securities to keep borrowing costs at rock-bottom levels -- and to help ensure chaotic markets function properly. It also set up programs to ensure credit flows to corporations as well as state and local governments.
The Fed’s latest steps landed as investors wait for U.S. lawmakers to deliver a multi-trillion dollar package of coronavirus support, which failed to come together Sunday when Democrats objected that it did not do enough for average Americans.
Following a string of emergency measures last week, the moves also increasingly push the central bank into new territory by providing direct support to U.S. employers, municipalities and households, which would traditionally be viewed as fiscal policy.
“Wow, just wow,” George Rusnak, head of investment management at Wells Fargo Private Bank, said on Bloomberg Television. “Hopefully you’ll come out of this with some fiscal stimulus as well, and you’ll be set with good growth opportunities in the long run.”
In a sign, however, of just how unnerved investors are by the pandemic, the Fed’s moves failed to spark anything beyond a brief rally in stocks and corporate bonds Monday after weeks of staggering losses.
Stocks fell 4.5% in New York. Yields on 10-year U.S. Treasuries initially sank below 0.69% as investors digested the news before pushing back to around 0.74%.
Some pockets of the market reacted positively to the Fed moves. Signs of stress in the corporate debt sector eased, with the CDX Investment Grade index spread tightening. Bond ETFs eligible for central-bank purchases rallied and the dollar retreated versus major peers.
Monday’s Fed action followed an already-dizzying number of steps taken by Chairman Jerome Powell in the past three weeks that would have been unthinkable just months ago. They represent a dramatic reaction to the sudden stop inflicted on the economy by the contagion and by the subsequent panic among investors.
Group of 20 finance ministers and central bank chiefs separately joined an emergency call to work on a joint response to the economic blow dealt by the pandemic.
The U.S. economy is reeling as cases rise and the death toll mounts. Federal Reserve Bank of St. Louis President James Bullard predicted the U.S. unemployment rate may hit 30% in the second quarter, along with a 50% drop in gross domestic product. Morgan Stanley expects the U.S. economy to plummet 30% in the second quarter.
The package included several unprecedented steps for the Fed, including intervention in the corporate bond market, purchases of commercial asset-backed mortgages and exchange-traded funds, and, if Congress clears the way, a significant Main Street lending program directly aimed at aiding small businesses.
“This is not a slush-fund,” U.S. Treasury Secretary Steven Mnuchin told Fox Business earlier on Monday. “It’s a mechanism we can use working with the Federal Reserve to provide another $4 trillion of liquidity into the market. That’s on top of the Fed’s balance sheet. This is a massive liquidity program.”
Beyond the unlimited quantitative easing program, the new emergency facilities will employ a total of $300 billion, backed by $30 billion from the Treasury’s Exchange Stabilization Fund.
Roberto Perli, a former Fed economist and partner at Cornerstone Macro LLC in Washington, said he expects those facilities to grow substantially if Congress moves ahead with plans to pump more money into the ESF.
The draft of an economic aid bill currently being hashed out on Capitol Hill included $425 billion for the ESF to support Fed actions.
The Fed’s new credit facilities carry limits on paying dividends and making stock buybacks for firms that defer interest payments, but have no explicit restrictions preventing beneficiaries from laying off workers.
The Fed said a week ago it would buy at least $500 billion of Treasuries and $200 billion of agency MBS. The Fed will now make those purchases unlimited and will take on a slew of new efforts, many aimed at directly aiding employers and households, as well as cities and states.
“This is a great step forward,” said Julia Coronado the president of MacroPolicy Perspectives. “Getting to the corporate bond market was critical. A lot of people needed to be clear the QE was unconstrained.”
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