How Much can Federal Reserve Policy Impact the Covid-19 Economy?

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The San Francisco Federal Reserve looks at Uncertainty and evaluates its impact on the economy.

Uncertainty is a fact of life. Long-term economic decisions are challenging because they often have long-lasting consequences and require people to make some pre-commitments. Once these decisions are made, they can be costly to reverse. For example, when people buy a house, they need to make an assumption about their future employment status and whether they will have the means to make mortgage payments. Similarly, when a business contemplates investing in a new product line, the manager must make assumptions about the strength of the economy several years ahead and how much consumers will be willing to pay for that new product. When times are uncertain, households and businesses may postpone consumption and investment decisions until they have more clarity about what lies ahead.

One indicator of uncertainty is the Chicago Board Options Exchange Volatility Index, or VIX, which measures investors’ perceptions of the 30-day-ahead volatility of the S&P 500. The VIX daily series has spiked several times since 2007. It jumped to its previous record high in November 2008, in the midst of the global financial crisis. The VIX also shot up in the fall of 2018 during a tense period of trade negotiations between the United States and China. Most recently, the COVID-19 pandemic and uncertainty about its negative impact on the world economy have ramped up the VIX to levels surpassing but comparable to those during the 2007 – 2008 global financial crisis.

In theory, heightened uncertainty can raise unemployment because a job match represents a long-term employment relationship and hiring decisions are costly to reverse. When uncertainty rises, employers may choose to wait and see before filling new positions, contributing to higher unemployment. At the same time, heightened uncertainty also reduces consumer spending because households choose to increase saving for precautionary reasons, for example, in case they lose their jobs. The decline in consumer spending reduces aggregate demand, further raising unemployment in addition to pushing inflation down.

These theoretical predictions are supported by empirical evidence. Figure 2 traces out the average statistical effects of an uncertainty shock on the three macroeconomic variables in the model. Each panel shows the average as a solid line, with shading indicating a 90% certainty that the average falls within that area. Following a sudden rise in uncertainty, the unemployment rate shown in panel A rises over time, reaching a peak effect roughly one year after the impact. Similarly, panel B shows that the inflation rate falls persistently for about six months before starting to rise again. The interest rate  falls quickly, reflecting monetary policy easing in response to the uncertainty shock.

The combination of a rise in the unemployment rate – that is, a decline of economic activity – and a fall in inflation suggests that uncertainty affects the economy in a way similar to a reduction in aggregate demand (Leduc and Liu 2016). Thus, through uncertainty, the COVID-19 pandemic has important demand-side effects in addition to the supply-side effects such as supply chain disruptions and labor shortages.

Policy responses to supply-side effects often involve a tradeoff because supply disruptions typically push up both unemployment and inflation. If the Fed reduced interest rates to offset the rise in unemployment, it would risk further increases in inflation. Alternatively, if the Fed raised interest rates to stabilize inflation, it would risk amplifying the rise in unemployment.

In contrast, monetary policy can more easily offset the impact of a decline in aggregate demand, since cutting interest rates helps reduce unemployment and simultaneously raises inflation. Thus, demand shocks do not introduce difficult tradeoffs between the Federal Reserve’s maximum employment and price stability objectives. The decline in the interest rate following an increase in uncertainty reflects the fact that the Federal Reserve has historically attempted to offset the demand-like impact of uncertainty by cutting short-term interest rates.

Using our estimated model, we can assess the likely magnitude and duration of the macroeconomic effects of the current uncertainty spikes associated with the COVID-19 pandemic. In particular, an uncertainty shock that boosts the VIX to a level comparable to that observed in the past few weeks raises the unemployment rate by about 1 percentage point in roughly 12 months. The same uncertainty shock would reduce the inflation rate by about 2 percentage points in about six months. In turn, monetary policymakers would be expected to rapidly bring the policy rate down to the effective lower bound, as was indeed the case when the Federal Reserve cut its federal funds rate in March.

Conclusion

In addition to the tragic human toll, the COVID-19 pandemic will severely reduce economic activity as nonessential retail and other business activity is curtailed and social distancing policies and quarantines force people to stay home. The negative impact on the economy can be further amplified and prolonged by rising uncertainty. Our estimates suggest that the spikes in uncertainty triggered by the COVID-19 pandemic will contribute to a protracted increase in unemployment and a significant decline in the inflation rate in the United States. The Fed’s decision in March to cut the federal funds rate to a near-zero level can partly cushion these demand-like effects resulting from the more uncertain environment.

Criminals Profit From The COVID-19 Pandemic

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New Europol report on latest developments of COVID-19 on the criminal landscape in the EU

During this unprecedented crisis, governments across Europe are intensifying their efforts to combat the global spread of the coronavirus by enacting various measures to support public health systems, safeguard the economy and to ensure public order and safety.

A number of these measures have a significant impact on the serious and organised crime landscape. Criminals have been quick to seize opportunities to exploit the crisis by adapting their modi operandi or engaging in new criminal activities. Factors that prompt changes in crime and terrorism include:

  • High demand for certain goods, protective gear and pharmaceutical products;
  • Decreased mobility and flow of people across and into the EU;
  • Citizens remain at home and are increasingly teleworking, relying on digital solutions;
  • Limitations to public life will make some criminal activities less visible and displace them to home or online settings;
  • Increased anxiety and fear that may create vulnerability to exploitation;
  • Decreased supply of certain illicit goods in the EU.

Building upon information provided by EU Member States and in-house expertise, Europol has published today a situational report analysing the current developments which fall into four main crime areas:

CYBERCRIME

The number of cyberattacks against organisations and individuals is significant and is expected to increase. Criminals have used the COVID-19 crisis to carry out social engineering attacks themed around the pandemic to distribute various malware packages. 

Cybercriminals are also likely to seek to exploit an increasing number of attack vectors as a greater number of employers institute telework and allow connections to their organisations’ systems.

Example: The Czech Republic reported a cyberattack on Brno University Hospital which forced the hospital to shut down its entire IT network, postpone urgent surgical interventions and re-route new acute patients to a nearby hospital.

FRAUD

Fraudsters have been very quick to adapt well-known fraud schemes to capitalise on the anxieties and fears of victims throughout the crisis. These include various types of adapted versions of telephone fraud schemes, supply scams and decontamination scams. A large number of new or adapted fraud schemes can be expected to emerge over the coming weeks are fraudsters will attempt to capitalise further on the anxieties of people across Europe. 

Example: An investigation supported by Europol focuses on the transfer of €6.6 million by a company to a company in Singapore in order to purchase alcohol gels and FFP3/2 masks. The goods were never received.

COUNTERFEIT AND SUBSTANDARD GOODS

The sale of counterfeit healthcare and sanitary products as well as personal protective equipment and counterfeit pharmaceutical products has increased manifold since the outbreak of the crisis. There is a risk that counterfeiters will use shortages in the supply of some goods to increasingly provide counterfeit alternatives both on- and offline.

Example: Between 3-10 March 2020, over 34 000 counterfeit surgical masks were seized by law enforcement authorities worldwide as part of Operation PANGEA supported by Europol. 

ORGANISED PROPERTY CRIME

Various types of schemes involving thefts \have been adapted by criminals to exploit the current situation. This includes the well-known scams involving the impersonation of representatives of public authorities. Commercial premises and medical facilities are expected to be increasingly targeted for organised burglaries.

Despite the introduction of further quarantine measures throughout Europe, the crime threat remains dynamic and new or adapted types of criminal activities will continue to emerge during the crisis and in its aftermath.

Example: Multiple EU Member States have reported on a similar modus operandi for theft. The perpetrators gain access to private homes by impersonating medical staff providing information material or hygiene products or conducting a “Corona test”.

Executive Director Catherine De Bolle said: “While many people are committed to fighting this crisis and helping victims, there are also criminals  who have been quick to seize the opportunities to exploit the crisis.  This is unacceptable: such criminal activities during a public health crisis are particularly threatening and can carry real risks to human lives.  That is why it is relevant more than ever to reinforce the fight against crime. Europol and its law enforcement partners are working closely together to ensure the health and safety of all citizens”.

European Commissioner for Home Affairs Ylva Johansson said: “I welcome this new Europol report on latest developments of COVID-19 on the criminal landscape in the EU. The EU and Member States are stepping up efforts to keep people safe: National authorities and EU Agencies like Europol and ENISA are providing valuable input into how we can tackle this challenge together. I am determined to ensure that the Commission does all in its power to support law enforcement in the face of this new threat.”
Pandemic Profiteering How Criminals Exploit The Covid 19 Crisis
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Targeting Aid in Crisis

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The imagery floats in sepia-colored photographs, faintly recalled images of bedraggled people lined up for bread or soup, write March Gordon of ABC News.  Shacks in Appalachian hollows. Ruined investors taking their lives in the face of stock market crashes. Desperation etched on the faces of a generation that would soon face a world war.

By now, it’s hard to find someone whose grandparents are old enough to recall the suffering of the Great Depression or the stream of rescue programs the government unleashed in response to it. All but gone, too, are memories of President Franklin Roosevelt’s “fireside chats,” his attempts to console an anxious populace and quell the “fake news” rumors of the day.

Nearly a century later, the U.S. economy is all but shut down, and layoffs are soaring at small businesses and major industries. A devastating global recession looks inevitable. Deepening the threat, a global oil price war has erupted. Some economists foresee an economic downturn to rival the Depression.

“With the markets destroying wealth so quickly, the two shocks we’re seeing globally – the coronavirus and the oil-price war – could morph into a financial crisis,” said Carmen Reinhart, a professor of economics and finance at Harvard’s Kennedy School of Government. “We will see higher default rates and business failures. It could be like the 1930s.”

During the early Depression years, unemployment peaked at 25%. U.S. economic output plunged nearly 30%. Thousands of banks failed. Millions of homeowners faced foreclosure. Businesses failed.

No one knows how this recession may unfold or how effectively the government’s rescue programs might help. Ignited by an external event – a raging global pandemic – it is uniquely different from both the Depression and the financial meltdown of 2008-09. And so its possible solutions are trickier.

It isn’t a conventional dislocation rooted in a financial collapse or an overheated economy or a burst asset bubble. The twist this time is that the only sure way to defeat the pandemic – with drastic containment measures like lockdowns, quarantines and business closures – is to deliberately cause a recession by bringing business and social life to a halt.

James Bullard, president of the Federal Reserve Bank of St. Louis, has gone so far as to warn that unemployment could reach 30% within months and that economic output could shrink 50%. Other outlooks aren’t quite as grim. But they’re all bleak.

Some economists take heart from the fact that the government possesses more potent tools to stabilize the economy than it did in the 1930s, some of them created in response to the Depression. They include a social safety net in unemployment insurance, a guarantee of bank deposits and federally backed mortgages. And the 2008 financial crisis led to the creation of an array of programs to fortify the banking system and encourage borrowing and spending.

President Donald Trump, after a hesitant start, now backs a bold and multi-pronged federal response to the crisis. It is just the sort of sweeping government involvement in the economy that was pushed this year by Democratic presidential candidates, well before the viral outbreak, but is almost always resisted by Trump and other Republicans.

After days of negotiations between congressional leaders and White House officials, Congress edged toward an agreement Tuesday on legislation that would deliver, by far, the largest economic rescue plan in U.S. history. At somewhere around $2 trillion, the wide-ranging aid package is intended to sustain workers and companies for at least 10 weeks. After that, further help might be needed.

The final package is expected to include, among other things, one-time cash payments of $1,200 to individuals and $3,000 for a family of four; more generous unemployment benefits for workers sidelined by the virus; an extension of that coverage to gig workers and independent contractors; and small business loans to help retain workers. An earlier $100 billion-plus package passed by Congress last Wednesday and signed by Trump includes a guarantee of paid sick leave for some workers affected by the virus.

A major element of the government’s intervention will continue to be the Federal Reserve, which is injecting trillions of dollars in liquidity into the financial system to support key lending programs. On Monday, the Fed unleashed its boldest effort yet to protect the U.S. economy by helping companies and governments pay their bills. With lending markets threatening to shut down, the Fed’s intervention is intended to ensure that households, companies, banks and governments can get the loans they need at a time when their own revenue is drying up.

As a whole, the emerging all-guns-blazing federal response is at least an echo of the economic stimulus that Roosevelt engineered in the depths of the Depression. Huge government aid programs put tens of millions to work in the construction of public buildings and roads, the pursuit of conservation projects and development of the arts.

Rural poverty was addressed, in part, by buying low-producing land owned by poor farmers and resettling them in group farms. Fannie Mae was created to buy home mortgages issued by the Federal Housing Administration. After the immediate crisis passed, Congress enacted far-reaching reforms of the financial system and banks and established unemployment insurance.

In contrast to today, the 1930s workforce was predominantly a male-dominated one of manual and farm labor. That changed only later, when the “Rosie the Riveter” wave of women entered factories to help mobilize America to fight World War II – a mobilization whose economic boost finally ended the Depression.

Today’s service sector-dominated 21st century economy, populated more by retail, technology and financial services as well as by contractors, freelancers and “gig” workers, is far different. A 2020 equivalent of the Works Progress Administration would be hard to imagine.

In today’s environment, more likely than government-created jobs are temporary measures like cash payments and guaranteed paid sick leave. Yet the options for the government are so vast that experts say they could deliver a significant benefit if deployed properly.

“There are more levers now for the government,” says Richard Grossman, who teaches economic and financial history at Wesleyan University. “There’s a lot now that the government can do that it wouldn’t even have thought of doing in the 1930s.”

An example was a rarely used 1950s-era lever that Trump invoked last week – the Defense Production Act. It empowers the government to marshal private industry to accelerate production of key supplies in the name of national security. (Critics complain that Trump has yet to put the law fully into action by actually ordering companies to make protective masks and other equipment that hospitals say are running dangerously low.)

Also last week, the president said he was open to giving the government a vast reach into the private sector – by taking equity stakes in companies that have been crippled by the virus, in exchange for giving the companies emergency loans.

This would recall the 2008-09 financial crisis, when the government engineered a $700 billion bailout of banks and automakers – and, in exchange, acquired equity stakes in those companies. That enabled the government to profit years later, when the companies repaid the taxpayer bailouts. The government took over outright the home mortgage backers Fannie Mae and Freddie Mac.

“Right now, the country’s frozen,” said Anat Admati, a professor of finance and economics at Stanford University and senior fellow at Stanford Institute for Economic Policy Research. “Policymakers have to decide what’s really best for society.”

Admati notes that FDR’s New Deal and unemployment insurance wove a new safety net after the ravages of the Depression. But the net has eroded over the last decade, she says, along with the rise in gig and part-time workers and low-paid staffers in health care and other service industries. Many of those workers don’t stand to benefit much, if at all, from unemployment benefits and other programs built for a different era.

A result is that income inequality could worsen as a result of the crisis and the economic and social dislocation it causes.

“There are bailouts and subsidies coming,” Admati said. “The key is how they are targeted.”

–

Paying Salaries versus Unemployment Benefits During Health Crisis

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More than three million Americans filed for unemployment benefits last week, a total far higher than in any previous week in the modern history of the United States, has been greeted with surprising equanimity by the nation’s political leaders, say the New York Ties editorial board.

They appear to regard mass unemployment as an unfortunate but unavoidable symptom of the coronavirus. “It’s nobody’s fault, certainly not in this country,” President Trump said Thursday. The federal government’s primary response is a bill that passed the US Senate. that passed the US Senate.  The bill would provide larger cash payments to those who have lost their jobs.But the sudden collapse of employment was not inevitable. It is instead a disastrous failure of public policy that has caused immediate harm to the lives of millions of Americans, and that is likely to leave a lasting mark on their future, on the economy and on our society.

The pain will be felt most acutely in the least affluent parts of the nation, struggling even before the coronavirus crisis and even after a decade of steady though unequal economic growth.

The federal government’s first and best chance to prevent mass unemployment was to keep the new coronavirus under control through a system of testing and targeted quarantines like those implemented by a number of Asian nations. But even after it became clear that the Trump administration had failed to prepare for the pandemic, policymakers still could have chosen to prioritize employment by paying companies to keep workers on the job during the period of lockdown.

A number of European countries, after similarly failing to control the spread of the virus, and thus being forced to lock down large parts of their economies, have chosen to protect jobs. Denmark has agreed to compensate Danish employers up to 90 percent of their workers’ salaries.  In the Netherlands, companies facing a loss of at least 20 percent of their revenue can similarly apply for the government to cover 90 percent of payroll. And the United Kingdom announced that it would pay up to 80 percent of the wage bill for as many companies as needed the help, with no cap on the total amount of public spending.

Some countries only pay employers for workers who aren’t working. Under Germany’s Kurzarbeit scheme, the government chips in even for workers kept on part time. The German government predicts that 2.35 million workers will draw benefits during the crisis. In either case, the goal is to preserve people in existing jobs — to preserve the antediluvian fabric of the economy to the greatest extent possible, for the benefit of workers and firms.

“What we’re trying to do is to freeze the economy,” the Danish employment minister, Peter Hummelgaard,  “It’s about preserving Main Street as much as we can.”

Preserving jobs is important because a job isn’t merely about the money. Compensated labor provides a sense of independence, identity and purpose; an unemployment check does not replace any of those things. People who lose jobs also lose their benefits — and in the United States, that includes their health insurance. And a substantial body of research on earlier economic downturns documents that people who lose jobs, even if they eventually find new ones, suffer lasting damage to their earnings potential, health and even the prospects of their children. The longer it takes to find a new job, the deeper the damage tends to be.

American companies have long fought to maximize their freedom to shed workers during economic downturns, and American economists have tended to agree, arguing that easy separation facilitates adjustments in the allocation of resources, allowing weaker businesses to shrink and stronger businesses to grow.

The American economy has outpaced Europe, and the freedom to fire workers may well be a factor. But the benefits have accrued primarily to shareholders. The European model has been better for workers, who have experienced faster income growth than in the United States.

And this downturn is not an example of the kind of periodic free-market “creative destruction” that those who embrace this theory tend to celebrate — it’s a public-health crisis. The nation has taken ill, and it needs to go to bed for a while. But there’s no obvious reason to think the economy would benefit from the kinds of big economic shifts facilitated by mass unemployment. This economic contraction was not caused by too much housing construction or too much gambling on Wall Street. It was caused by the arrival of a virus, and preserving ties between companies and workers could help to accelerate the eventual economic recovery once the pandemic passes. Companies could keep trained and experienced employees, averting the need for people to look for jobs and for companies to look for workers.

The United States has made some efforts to preserve jobs, particularly at small businesses. The bailout bill includes $367 billion for loans to small businesses that would be forgiven if recipients avoid job and wage cuts.

And the bill does not require big companies that get bailouts to make similar efforts.

Instead, the government agreed to give workers who lose their jobs an extra $600 a week.

We’d all be better off if the government had helped those workers keep their jobs instead.

The Rising Earning Power of Women

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The Rise of Female Breadwinners

Who is the higher income earner in your family?

Over time, the U.S. has seen a rise in female breadwinners. In fact, the proportion of women who earn more than their male partners has almost doubled since 1981.

Today’s Markets in a Minute chart–from New York Life Investments–illustrates the historical trajectory of women’s earning power, as well as systemic challenges women still face.

Then and Now: Gaining Ground

In the last 40 years, there has been considerable progress in both the percentage and number of female breadwinners.

1981 1991 2001 2011 2018
% Female Breadwinners 16% 21% 24% 28% 29%
# Female Breadwinners 4.1M 6.5M 8.1M 8.8M 9.6M

For families that had dual incomes, only 16% of households in 1981 had a female breadwinner. This was equal to about 4 million women across the country at the time.

Fast-forward to the present, and close to 10 million married, female breadwinners were part of the U.S. labor pool in 2018.

Breakthroughs Could Link to Education

Higher education rates and rising earning power are helping to decouple women from pre-existing financial stereotypes.

For married female breadwinners*, the impact of education often plays out as follows:

Education level % of Women Earning Equal or More Than Partner
More education than partner 49%
Same education as partner 29%
Less education than partner 20%

Source: Pew Research Center
*Over age 25

The odds of a woman earning the same or more than her partner skyrockets nearly 250% if she has more education, compared to if she has less education.

Interestingly, when it comes to career trajectories, women and men share similar decision-making rationales. Among surveyed women, 83% were more likely to delay having kids in order to advance their careers, compared to 79% of men. The primary reason: to help secure a stronger financial standing for their future children.

While it is clear that women have become a growing financial force over time, they still face many persistent challenges today.

A Chorus of Systemic Barriers

Women experience a litany of headwinds, both overt and subtle. What are some variables that continue to have a pervasive impact on women’s finances?

Media Bias
According to one study, 65% of media language directed towards women and their finances surrounded “excessive spending”. In contrast, 70% of language towards men discussed “making money” as a masculine ideal.

Financial Well-being
According to a global survey, 85% of women manage day-to-day expenses as much as or more than their spouse. However, 58% of women defer long-term financial and investment decisions to their husbands.

Gender Wage Gap
Based on the median salary for all men and women, women earn 79 cents for every dollar men make in 2019. The gap starts small and continues to grow as people age. How can women close the gap? The Georgetown Center on Education and the Workforce has some advice:

  • Get one more degree
  • Pick a high-paying college major, such as the STEM fields
  • Negotiate starting pay

If current earning trends continue, women will not receive equal pay until 2059.

Leadership Roles
While more women are in the workforce compared to previous generations, they tend to be in lower positions.

Women in S&P 500 Companies

Role Women’s Representation in Role
CEOs 5.8%
Top Earners 11.0%
Board Seats 21.2%
Executive/Senior-Level Officials and Managers 26.5%
First/Mid-Level Officials and Managers 36.9%
Total Employees 44.7%

Why are there so few women CEOs? Men dominate management roles that influence the company’s bottom line, such as COO or sales. On the other hand, female executives typically fill roles in areas like human resources or legal—which rarely lead to a CEO appointment.

The Road Ahead

The last 40 years have shown immense progress, yet there is still plenty of room for further advancement.

Women belong in all places where decisions are being made… It shouldn’t be that women are the exception.

—Ruth Bader Ginsburg, U.S. Supreme Court Justice

 

Who is Prepared to Work at Home in the US

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How Many Employees Are Prepared To Work From Home?

from the St Louis Fed

Due to COVID-19, many firms are asking their employees to work remotely. There are also cases of firms halting work altogether, including automobile manufacturers halting production lines.

In response to the viral outbreak, many state governments have ordered public spaces – such as restaurants – to close or to limit occupancy. In occupations less prepared for remote work, we will expect to see more workers furloughed or laid off as a response to these public health measures. Below we discuss which types of workers are most likely to adjust to the current crisis by working from home based on occupation and income.

Who Can Telecommute?

An increasing trend toward telecommuting since 1980 has been documented in other research by the Federal Reserve Bank of St. Louis.[1] Here, we consider a broader definition of telework in the U.S.: workers who have worked from home at least once during a one-month period. We consider these workers as capable of working remotely under current circumstances. We estimate 13% of full-time workers are ready for remote work as of 2017.[2]

Remote Worker Occupations

The first figure decomposes remote-ready workers by occupation.

Stacked bar chart showing occupation groups for remote workers

Professional workers (includes managerial and technical occupations) represent a little more than 75% of remote-ready workers. Service workers (includes sales) represent approximately 14%. Manufacturing (which also includes construction and farming) and clerical occupations each represent only 5% of remote-ready workers.

Remote Worker Incomes

The next figure decomposes the remote-ready workers by household income.

Stacked bar chart showing household income for remote workers

Individuals in household earning more than $100,000 per year comprise 60% of teleworkers. Those with incomes less than $50,000, together, are only 11% of remote-ready workers.

Effects on Workers

These figures suggest which workers are likely to be asked to work from home during the pandemic event and which are likely to be out of work (though some may remain on payroll). Those with higher household incomes in professional occupations are most likely to work remotely.

Whose Problems Should the US Federal Reserve Address?

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The Crisis in Financial Markets Began Before COVID-19.

The Federal Reserve has been committing hundreds of billions to short-term lending markets for months. It’s time to make that power work for more than just Wall Street, Matt Stoller and Graham Steele suggest.

Well before the pandemic, the Fed injected hundreds of billions of dollars into repo markets for reasons that are unclear.

Last week, the Federal Reserve staged a large-scale intervention in short-term money markets, announcing that it would make $1.5 trillion in loans available in the coming days. It followed with a big rate cut. And this week, the Federal Reserve is going to start lending to any big corporation that needs it, an emergency measure it last took during the 2008 financial crisis. It will be lending essentially unlimited sums to hedge funds, banks, and brokerages.

These subsidies to the financial sector might make sense today, because the COVID-19 pandemic was unexpected and every sector is having problems. The central bank must act and act boldly at such a moment.

But it’s important to divide up responses to the pandemic into shocks to the system that are a necessary result of an unexpected catastrophe, and preexisting problems that we never addressed that are made worse by the outbreak. Seen in that light, what the Fed is doing looks much riskier than it first appears. While the scale of the Fed’s announcement dwarfs its preceding interventions, this was the third of its kind in just the last six months.

Before fears of a recession driven by the impact of COVID-19, there were funding squeezes in the fall and winter of 2019, caused by as-yet unidentified factors. What we do know is that we never fixed the plumbing of the financial system after the 2008 financial crisis, because it’s more profitable for certain financial actors to rely on the Federal Reserve’s balance sheet than to force them to act responsibly. Defenders of the status quo ignore the fundamental questions raised by the fact that shocks, both large and small, have required the Fed to repeatedly prop up short-term credit markets.

Without getting too technical, here’s what’s going on. You and I deposit and borrow money in a simple, regulated system. We get loans through a bank or credit card company, and deposit money in banks guaranteed by the Federal Deposit Insurance Corporation. If our bank goes under, our bank account is guaranteed up to $250,000 by the government.

But hedge funds, brokerages, and big corporations operate in a different banking system. They essentially deposit and borrow money using instruments called “repurchase agreements,” commercial paper, and money market funds, all of which are key parts of what is called the “shadow banking” sector. These instruments are mostly unregulated, which means they can cause bank runs. The government agency charged with investigating what caused the 2008 crisis found that the lack of regulation in this shadow banking sector was a key cause of the crisis.

In 2008, after runs in the shadow banking markets, the Federal Reserve established a variety of rescue programs, lending billions of dollars to keep credit flowing between financial institutions—one of which the Fed has now reopened. But well before the pandemic, throughout last fall and winter, the Fed injected hundreds of billions of dollars into repo markets to ensure proper liquidity and keep interest rates from skyrocketing. Nobody really knows why that was necessary, and faced with today’s crisis, it’s more of an afterthought. But it speaks to the continued instability in these markets.

Short-term funding markets are smaller and more resilient now than they were during the financial crisis, but they still account for trillions of dollars in daily lending. Part of the reason for that is the Fed’s generosity, providing liquidity to the repo market. Still, former banking regulator Daniel Tarullo the panics produced by volatile short-term funding are one of the “greatest risks to financial stability” remaining in all of nonbank credit provision. And even now, bankers are trying to roll back what rules do exist.

Defenders of the status quo ignore the fundamental questions raised by the fact that shocks have required the Fed to repeatedly prop up short-term credit markets.

In the wake of each of the episodes of turmoil in shadow lending, we have avoided asking fundamental questions about the fragile structure of our financial markets. Is our economy best served by a financial system where billions of dollars in essentially “hot money” sloshes around in the good times, but seizes up at the hint of some disruption unless the government intervenes? Is it good for our society, more broadly, to use our central bank’s balance sheet solely to support banks, hedge funds, and other financial actors? Is this really the best system that we can design, or are there more democratic alternatives to the status quo?

  1. We could restrict the use of short-term obligations or give citizens direct access to Federal Reserve bank accounts.
  2. The Fed could lend to nonfinancial businesses, or financial guarantees could be paired with aid for struggling families and workers.
  3. We could subject all financial institutions that benefit from a government backstop—whether engaged in boring banking or shadow banking—to the same comprehensive level of regulation.

These reforms would not only make the economy more resilient.  They would make sure everyone benefits from the Fed’s actions.

We made the choice to structure our financial markets this way, which means we also have the power to change them. It is time for us to stop conceiving of the financial markets, and especially short-term credit markets, as if they are the product of some immutable laws of physics. How many times will we let the plumbing of the financial markets get clogged before we ask if it’s time to finally replace the pipes?

Is Action of the Federal Reserve in the US Enough?

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The US Federal Reserve will pump more than $1 trillion as it ramps up its market intervention as coronavirus melts down the economy.

  • The Fed announced a bold new initiative in an effort to calm market tumult amid the coronavirus meltdown.
  • In all, the new moves pump in up to $1.5 trillion into the financial system in an effort to combat potential freezes brought on by the coronavirus.
  • This was the second day in a row and the third time this week the Fed has stepped in.
  • Stocks staged a sharp turnaround from earlier losses, though some of those gains were pared.
New York Fed to conduct purchases across range of maturities

“These changes are being made to address highly unusual disruptions in Treasury financing markets associated with the coronavirus outbreak,” the New York Fed said in an early afternoon announcement amid a washout on Wall Street that was heading toward the worst day since 1987.

Stocks were off their lows following the announcement though some of the gains were pared as the market digested the moves. Some in the market were skeptical that the move was enough, and even whether the the Fed itself had the proper tools to reverse the current market downtrend.

“We continue to emphasize that this Fed will act aggressively and in particular that central banks are focused on safeguarding market functioning at this point, and will continue to provide liquidity in scale,” Ebrahim Rahbari, director of global economics at Citi Research. “However, despite the sharp initial risk rally, we think these measures will still not be sufficiently to durably stabilize market sentiment yet in light of credit concerns and escalating health concerns.”

One part of the announcement saw the Fed widen the scale for its $60 billion worth of money the Treasury purchases, which to now had been confined to short-term T-bills.

Blunting The Impact And Hard Choices:

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Early Lessons From China

From the International Monetary Fund: The impact of the coronavirus is having a profound and serious impact on the global economy and has sent policymakers looking for ways to respond. China’s experience so far shows that the right policies make a difference in fighting the disease and mitigating its impact – but some of these policies come with difficult economic tradeoffs.

Hard choices
Blunting The Impact And Hard Choices

Alexei Talimonov
https://www.w-t-w.org/en/cartoon/alexei-talimonov/