The Federal Reserve re-opened the crisis-era playbook on Sunday by abruptly announcing that it was slashing rates to near-zero and restarting asset purchases to counter the economic shock of the coronavirus.
But Wall Street economists say the Fed is not out of ammunition if economic conditions deteriorate further.
Jefferies chief market strategist David Zervos: “There are plenty of bazookas left in the war chest.”
In a press conference following the emergency Fed announcement yesterday, Chairman Jerome Powell messaged that the central bank did not exhaust all of its policy options over the weekend.
“We have a lot of power in our liquidity tools and as I mentioned we’re prepared to use them,” Powell said in a teleconference with reporters. “In addition we’ve got plenty of space left to offer forward guidance and asset purchases and adjust those policies so I think we do have room.”
The Fed committed to leaving rates at the zero-bound “until it is confident the economy has weathered recent events and is on track” to full employment and 2% inflation.
JPMorgan’s Michael Feroli: Forward guidance messages no move on rates “at least through the end of the year, and perhaps much longer.”
The Fed also left the door open on its quantitative easing program, which can be “adjusted as appropriate” to support market liquidity. The central bank announced $700 billion of asset purchases “over coming months,” $500 billion in U.S. Treasuries and the other $200 billion in agency mortgage-backed securities.
Powell said the purchases are designed to be flexible and have no weekly or monthly caps at the moment.
UBS’s economics team: “We think that the structure is a mistake—commiting to a fixed amount is less powerful than an open-ended promise. But the Fed can (and likely will) increase the limit as time and circumstances evolve.”
Powell swats down negative interest rates
Powell clarified that the Fed is not considering further unconventional tools at the moment. He said negative interest rates are not “appropriate” and said he is not considering asking Congress to expand its authority on the types of assets it can buy.
Boston Fed President Eric Rosengren suggested a week and a half ago that the central bank may want to buy more than U.S. Treasuries and agency MBS, as it is broadly limited to at the moment.
The Fed does, however, have another tool: the Commercial Paper Funding Facility. While the Fed’s tools rely on the banking system to transmit policy, the commercial paper market gives the Fed the opportunity to provide direct relief to businesses in all types of industries.
Commercial paper is a form of unsecured, short-term debt issued by companies to raise funds. But with the business disruptions spurred by quarantines across the country, investors that usually support the trade of commercial paper are on the sidelines. A freeze-up in the commercial paper market could ripple through the financial system.
BofA Securities: “Without such a program we expect that the [commercial paper] market will remain frozen in the near term.”
The New York Fed could start the CPFF and absorb some eligible three-month commercial paper. The Fed could also open a Term Asset-Backed Securities Loan Facility which would support loan issuance by supporting the market for asset-backed securities.
The Fed has the power to open both programs under Section 13(3) of the Federal Reserve Act but the central bank would have to consult with the U.S. Treasury before launching them.
Powell did not announce either program yesterday but said they remain “part of our playbook in any situation like this.”
Wall Street economists say they expect commercial paper to be the next policy target.
TD Securities: “We have been arguing that the CP market was undergoing significant strains in recent days and a facility such as the Commercial Paper Funding Facility (CPFF) would have been very helpful.”
Compass Point’s Isaac Boltansky: “We firmly believe that certain crisis-era liquidity programs in the weeks ahead.”
Fiscal policy grabs the baton
The Fed’s policy announcement on Sunday placed a further onus on the White House and Congress to actually contain the virus and provide relief to households and businesses.
Powell said the economic challenge now “requires answers from different parties,” mentioning that fiscal policies remain key to limiting the economic impact of the public health emergency.
Société Générale’s Stephen Gallagher: “The spread of the coronavirus continues in the US without a peak yet in sight. More commercial and public activities face cancellation, and the full downside impact on the economy remains highly uncertain.”
For now, Powell at least still appears to have some tools.
Deutsche Bank Securities: “[Sunday’s] actions are, therefore, unlikely to be the last response from the Fed.”
The Fed’s next scheduled policy-setting meeting will take place April 28 and 29.
Brian Cheung is a reporter covering the Fed, economics, and banking for Yahoo Finance. You can follow him on Twitter @bcheungz.
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