In the event of a pandemic, the Fed has shown its strength in the markets, it still matters

The US Federal Reserve’s response to the coronavirus pandemic began on February 28 with a 44-word declaration of faith in the economy from President Jerome Powell, an old-fashioned move aimed at calming plummeting financial markets.

Within weeks, however, his actions became so revolutionary that they made the US central bank a creditor of the world and opened up to frightening amounts of risky debt.

Even Powell felt that the Fed had “crossed a lot of red lines that had never been crossed before.”

“We saw economies around the world shut down,” he said in late spring, “and we felt called to do what we could.”

This included swift promises of massive bond purchases, an open window for dollars for other central banks, and eventually loan programs covering virtually every US business and many local governments.

Yet what happened proved alarmists wrong: the Fed’s balance sheet, a rough measure of its footprint in the economy, grew much less than expected; its most controversial loan programs have garnered modest interest and will end on December 31.

Yet the Fed has proven what is perhaps the most important point: it is just important to be there and act quickly.

“REWRITE THE READING BOOK”

The Fed has not been able to solve all of the economic problems of the pandemic. Perhaps the biggest challenge, providing money to families when unemployment hit a record 14.7% after World War II, required legislation from Congress.

But it showed just how energetic he remains in restoring confidence in fragile times. While it took months to flesh out its most innovative responses, key milestones occurred with a shift in March when its traditional tools – including offering short-term loans to financial firms – were rolled out in strength.

It was a version of the classic central bank edict of lending freely against adequate collateral, but the speed and size of the Fed’s early steps “rewrote the manual,” cabinet president Julia Coronado said. MacroPolicy Perspectives Consulting.

“In the beginning, they were gobbling up assets in the hundreds of billions and forcibly restarting the markets, and there was no particular constraint other than ‘we’re going to do this until it works. “”

This turned out to be a stark contrast to the Fed’s response to the 2007-2009 financial crisis, Coronado noted, when it took about four years to step up three successive “quantitative easing” programs.

” GOOD RESULT “

The US economy faced a frightening array of risks last spring.

Efforts to control the spread of COVID-19 triggered a nationwide state of emergency on March 13 and restrictions forcing entire sectors of the economy to shut down temporarily. The stopping point for airlines, hotels, restaurants and everything not “essential” wiped out 22 million jobs from February through April, sparking fears of a second Great Depression.

For central banks, crises are more perilous when confidence is corrupted – when what is considered risk-free trading one day, with two parties confident in their presence, looks fishy a day later. This loss of confidence, at worst, puts an end to short-term lending that keeps the economy as a whole buzzing and triggers a larger collapse.

When this started to happen in March, the Fed’s first actions supported trading in Treasury bonds, short-term business loans and other critical financial instruments, arguably preventing a financial crisis from taking hold. add to all other problems.

It took a lot less than expected. Analysts including former New York Fed chairman William Dudley predicted the Fed’s balance sheet to hit $ 10 trillion by the end of 2020.

From mid-March to mid-June, the “swallow-up” of assets swelled the Fed’s holdings from $ 4.2 trillion to $ 7.1 trillion. Then the expansion slowed down and the balance sheet has barely budged since then.

Why? Even in a single crisis in a century, private markets – knowing the Fed was ready – provided many loans on their own, greasing the economy and keeping risk in private hands rather than loading it on. the central bank.

“It’s a happy result,” said William English, a professor at the Yale School of Management and former head of the Fed’s monetary policy division. “People thought the Fed should give more direct credit.”

“It turned out that the announcements basically meant investors were comfortable again.”

THE GAME HAS CHANGED ‘INTO GOOD’

The nature of the crisis may have helped.

The past nine months have been devastating, with more than 18.4 million U.S. residents infected with COVID-19 as of December 23 and more than 326,000 dead. About 10 million fewer people are working today than in February. The economy at the end of 2020 will be roughly the size it was at the end of 2018.

Yet it was a crisis with a clear cause that shocked an otherwise healthy economy. A resolution to the pandemic is now in sight as the first vaccines were rolled out this month.

The economy technically remains in recession, with millions of families struggling and months until the full impact of the vaccine is felt.

During the year, the role of the Fed was partly redefined: the crisis forced it to cooperate more closely with the Treasury and play a potentially more important future role in reducing the costs of government borrowing. as the country finances record levels of public debt.

But in terms of future crises, the Fed’s model should now be set, Coronado said.

“Initially, the story was that monetary policy was over,” Coronado said. Instead, “it had a huge impact. The game has changed dramatically and in a good way.”

Disclaimer: This article was posted automatically from an agency feed without any text changes and has not been reviewed by an editor

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