What to Make of the Fed’s Emergency
The Federal Reserve reduced its target rate by 50 basis points to a range of 1% to 1.25% on March 3rd. In their statement, the Fed said “The coronavirus poses evolving risks to economic activity,” and 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.” This was the 8th inter-meeting rate cut in in the last 22 years and the first since the great financial crisis.
Since such cuts preceded recessions in the past, investors are asking whether they should expect the same result this time. It is tempting to think that since the immediate market reaction was negative that central banks have run out of ammunition. The efficacy of the Fed and other central banks during this crisis should be judged on how economies recover once the outbreak subsides, not based on short term market moves.
We think the Fed is acting prudently in the face of an exogenous shock. The global economy had seen improved data after the trade truce and lower central bank rates last year. Coronavirus is a new wild card causing a large dislocation in China as seen in large quarantines and the weakest PMI figure ever. Although new cases of coronavirus are declining there, they are rising in other parts of the world. The disease is proving at this stage to be more contagious than previous outbreaks like H1N1 (2009) and SARS (2004). Financial conditions have tightened significantly with fear the disease will cause a global recession if it spreads.
The positive news is policy makers recognize the risk. The Fed actions Tuesday won’t cure anyone suffering with coronavirus or repair global supply chains, but once the infection rate falls or a therapeutic breakthrough occurs, easier policy should help growth reaccelerate. China has also stepped up monetary and fiscal stimulus. While finance ministers did not agree to a coordinated stimulus package this week, they made it clear they will act to offset virus related weakness. One also cannot rule out further Fed rate decreases or balance sheet expansion.
Brian P. Meaney
Vice President, Taxable Fixed Income Strategist