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Fed cuts half point in emergency move amid spreading virus
“The coronavirus poses evolving risks to economic activity,” the Fed said in a statement to announce the move.
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Federal Reserve chairman Jerome Powell holds a news conference following the two-day meeting of the Federal Open Market Committee (FOMC) meeting on interest rate policy in Washington, US, on Wednesday, Jan. 29, 2020. (Reuters/Yuri Gripas)
T
he US Federal Reserve delivered an emergency half-percentage point interest rate cut Tuesday in a bid to protect the longest-ever economic expansion from the spreading coronavirus.
“The coronavirus poses evolving risks to economic activity,” the Fed said in a statement to announce the move, its first such inter-meeting cut since October 2008 during the financial crisis.
US stocks were higher after the news, while the 10-year Treasury yield touched 1.08 percent. Fed funds futures are pricing more than a percentage point of central bank rate reductions for 2020, including another quarter-point cut in the first half of the year.
The central bank also said it is “closely monitoring developments and their implications for the economic outlook and will use its tools and act as appropriate to support the economy.”
The Fed’s action could presage a wave of easing from other central banks around the world. It came hours after Chairman Jerome Powell and finance chiefs from the Group of Seven nations said they would “use all appropriate policy tools to achieve strong, sustainable growth and safeguard against downside risks.” That echoed a statement Powell made on Friday.
The vote for the emergency cut to a range of 1 percent to 1.25 percent was unanimous. The Fed also said in the statement that the “fundamentals of the US economy remain strong.”
Powell will hold a press conference Tuesday at 11 a.m. in Washington, the Fed said.
The decision comes amid public pressure for a cut by President Donald Trump, whose stewardship of the economy is central to his reelection campaign this year. Following the news he called for more, demanding in a tweet that the Fed “must further ease and, most importantly, come into line with other countries/competitors. We are not playing on a level field. Not fair to USA.”
US central bankers were scheduled to gather March 17-18 in Washington. Tuesday’s decision was the first time it had cut by more than 25 basis points since the financial crisis.
The reduction marks a stark shift for Powell and his colleagues. They had previously projected no change in rates during 2020, remaining on the sidelines during a US election year, after lowering their benchmark three times in 2019 to a range of 1.5 percent to 1.75 percent.
As recently as last week, some officials, including Vice Chairman Richard Clarida, had indicated they thought it was too soon to respond to the virus. They pledged to monitor the situation, but argued monetary policy was already easy and the fundamentals of the economy strong with unemployment near a 50-year low.
But as the number of reported cases of the virus rose around the world in recent days and the US reported its first fatality, traders increasingly bet the Fed would step in to shore up confidence and keep credit flowing. Powell seemed to cement that view with his emergency statement on Friday, which lent some support to stocks.
Powell has staked his chairmanship on sustaining the expansion, words he has used to describe the essential mission of the FOMC, the Fed’s rate-setting panel. Despite the limited ability of monetary policy to ease the impact of a public health emergency, the rate cut could support consumer and business sentiment. Lawmakers are working on a US$7.5 billion virus response bill, another reminder that critical fiscal policy can take weeks to move through Congress.
Lower rates do little for factories lacking needed materials from abroad and are unlikely to spur consumers to shop if they’re scared of infection. But they do ease financial conditions by making debt payments easier to manage and by calming volatility.
One lesson Fed officials will take away from this moment is how rapidly their policy space is used up in a crisis.
Total cuts of one percentage point this year, which several Wall Street firms are forecasting, would bring the bottom range of the Fed policy rate down to 0.5 percent. If the virus impact is worse than expected, or if the economy is hit by a separate shock, the policy rate could strike zero. At that point, Fed officials are left with unconventional tools, such as purchases of longer-dated Treasuries – known as quantitative easing. The effectiveness of such tools when longer-term rates are already low remains to be seen.
The Fed is in the midst of a review of its tool kit to achieve its goal of maximum employment and stable prices. They are considering policies such as outcome-based forward guidance, where a policy change would be linked to some tangible metric such as achieving an inflation rate, and yield curve caps.
Wherever the discussion lands, the virus has highlighted the need for better fiscal and monetary policy coordination in a time of exceptionally low interest rates, says Julia Coronado, the president of The Fed is “carrying the domestic burden and the global burden” because they are one of the few central banks in developed economies that still has rates to some degree above zero, Coronado said.
“The fiscal policy response has been lacking. There are people that are going to be struggling to pay their bills and certain workers are going to lose incomes. This is the shock that needs to be insured and we are really behind the curve.”
