Fed: The Flagship

After the first coronavirus incident in the USA, the extent of the damage in the financial markets and real economy brought with it the same high amount of measures and incentives taken.

In this process, while it was observed that the income flow of the consumers who stayed home and limited their spending was disrupted and the job losses increased, while the liquidity flow of the enterprises decreased significantly. In the face of this situation, the Fed, which is described as the flagship in the world financial markets, has implemented many measures.

Fed Chairman Jerome Powell, who first pointed to the seriousness of the epidemic in his speech after the monetary policy board meeting on 29 January 2020, stated that the uncertainties stemming from COVID-19 on global growth continued and said, “The virus is a very serious issue. it is unclear how far the epidemic could spread and what effects could be. We are observing the situation closely” (Anadolu Ajansi 2020a-g).

At the end of February, Powell stated that they were closely monitoring the devel­opments regarding COVID-19 and the effects of the epidemic on the economic outlook, and gave the message that they would take appropriate steps to support the economy. The same day, Fed St. Louis Branch Chairman James Bullard also stated that if the epidemic spreads further, the Fed was likely to cut interest rates (Anadolu Ajansi 2020a-g).

Not even a week after the statements by Powell and Bullard, the Fed surprisingly cut rates on 3 March.

This decision, which was taken during the period when the economic effects of the virus were discussed and uncertainties were intense, actually caused panic in the markets in the first place. The impact of the decision was first seen on the US 10-year bond rates. The US 10-year bond yields, which are globally important and closely monitored as a risk measure, fell below 1% for the first time in history.

The first move regarding the liquidity squeeze after the rate cut came from the New York Branch of the Fed on March 12. In this context, it was announced that a total of 1.5 trillion dollars of liquidity will be offered to the markets where unusual fluctuations were observed due to the COVID-19 epidemic through 1-month and 3-month repo transactions (Federal Reserve Bank of New York 2020).

On 15 March, the Fed cut the rates for the second time before the FOMC meeting on 17-18 March to mitigate the economic impact of the COVID-19 outbreak and took the policy rate down to the range of 0-0.25%. Fed Chairman Jerome Powell pointed out that the interest rates would be kept at this level for a long time after the decision, and said that they would keep the interest rate at 0-0.25% until after they were sure that the economy survived the latest events and they could achieve their maximum employment and price stability targets (Federal Reserve 2020a-l).

On the same date, the ECB decided to expand the swap line with the Fed and BoJ, as well as the central banks of Canada, England and Switzerland, to secure dollar liquidity supply on a global scale. Within the scope of the joint decision taken in order to act in a coordinated manner to increase the dollar-denominated liquidity supply of the markets, in addition to its current operations for one week, it started to give weekly dollars on overnight index swaps (OIS) with a maturity of 84 days at 25 basis points (Federal Reserve 2020a-l).

The Fed, which continues its actions without interruption, announced on March 17 that it would restart the opportunity for US companies, which are in a diffi­cult situation under the economic impact of the COVID-19 outbreak, to borrow through the commercial securities market. In this context, the bank re-commissioned the Commercial Paper Funding Facility (CPFF), which was established to increase liquidity in short-term funding markets during the 2008-2009 global financial crisis (Federal Reserve 2020a-l).

On the other hand, with a decision taken on March 18, the bank initiated the Primary Dealer Credit Facility (PDCF) to support the loan needs of households and businesses (Federal Reserve 2020a-l), which was implemented during the 2008 global financial crisis to open a new liquidity window for market makers. Mentioned facility, which was restarted due to COVID-19, supported the good functioning of the markets and provided loans to businesses and households. The Fed stated that the PDCF, which started on March 20, would be in place for 6 months and could be extended, if necessary.

Three days after the decision to expand the swap line with major central banks, the Fed made another move in this regard. In this context, the Fed established new swap lines with 9 central banks, including Australia, Brazil, Denmark, Korea, Mexico, Norway, New Zealand, Singapore and Sweden, on 19 March. With the swap lines in question, it was announced that nearly USD 60 billion of liquidity would be provided for each of the central banks of Australia, Brazil, Korea, Mexico, Singapore and Sweden, and USD 30 billion for each of the central banks of Denmark, Norway and New Zealand (Federal Reserve 2020a-l).

TheFed took its actions to an “unlimited” dimension as the economy faced serious problems despite all the mentioned steps and the manufacturing industry indexes in many states fell to historically low levels in this process. In order to mitigate the damage caused by the epidemic and provide support to the economies, the Fed, which took new measures, including unlimited asset purchases, on 23 March, announced that it would purchase securities based on treasury bonds and mortgages in order to ensure smooth functioning of markets and effective transmission of monetary policy. On the other hand, the bank has included commercial mortgage-backed security purchases in its residential mortgage-backed security purchases.

Although the Fed’s unlimited asset purchase move was welcomed in the markets, it revealed the necessity of taking aggressive measures in the public and private sectors to limit job losses and ensure rapid recovery. Within the same statement, the bank also stated that credit flows to employees, consumers and businesses would be supported by creating new programs and approximately 300 billion dollars of new financing would be provided. In this context, it was also announced that the Ministry of Treasury Exchange Stabilization Fund would provide 30 billion dollars equity. In addition, the Fed’s New York Branch simultaneously announced that it would purchase USD 75 billion in treasury bonds and USD 50 billion mortgage-backed securities every day that week (Federal Reserve 2020a-l).

On the last day of March, the Fed launched a temporary repo facility for foreign central banks and international financial institutions to help the smooth functioning of financial markets. In this context, foreign central banks and international financial institutions had the opportunity to temporarily exchange their US Treasury securities for dollars (Federal Reserve 2020a-l).

In early April, when the spread of the outbreak accelerated and peaked in many countries, the Fed temporarily eased the additional leverage ratios that major banks had to hold for a year. This decision was reported to aim to facilitate lending by banks while supporting their liquidity.

Deciding to take additional actions to provide up to USD 2.3 trillion in loans to support the economy on April 9 due to the pandemic, the Fed announced the details of support to households, businesses of all sizes, and local governments. In this context, the Fed announced that up to USD 600 billion loans would be purchased to ensure credit flow to small and medium-sized enterprises, while the US Treasury Department would provide USD 75 billion in equity. On the other hand, it was announced that the scope of 3 loan programs to increase credit flow to households and businesses would be expanded and support up to USD 850 billion would be provided.

Although it was open to debate whether the Fed, which greatly reduced its arsenal in terms of near-zero interest, unlimited bond purchases, and credit channels, would apply negative interest rates in May, President Powell put an end to this debate with a statement and said that this was not a tool they consider.

At its monetary policy meeting held on 18 May, the Fed continued to keep the policy interest rate in the range of 0-0.25, as previously signaled. In the text of the decision, it was promised that the Fed would use all the tools it had to support the US economy in such a difficult period. In June, the prominence of verbal guidance was noteworthy, and the frequency of President Powell’s evaluation increased. Powell reminded in each of his evaluations that they reduced the policy interest rate to almost zero, and conveyed the message that they would keep their interest rates at this level until they were sure that the economy had overcome these events and achieves the targets of maximum employment and price stability.

At the meeting held on June 10, the bank kept the interest rates in the range of 0­0.25, while the Fed’s long-term growth expectation for the US economy was reduced to 1.8% (Federal Reserve 2020a-l).

On the other hand, it was estimated that the US economy could contract by 6.5% in 2020, grow by 5% in 2021 and 3.5% in 2022. “We don’t even think about raising rates. What we are thinking about is supporting the economy. We think it will take some time,” said the Fed Chairman, who held a post-decision press conference, on interest rates.

The bank started to receive applications from banks on 15 June, within the scope of the loan program for small and medium-sized enterprises, which it announced on 9 April and implemented to mitigate the economic effects of the outbreak. With the support announced as the “Main Street Lending Program,” it is envisaged to provide loans of up to 600 billion dollars for small and medium-sized enterprises. In addition, the Fed announced that it would start buying corporate bonds on 16 June, while Powell reaffirmed its commitment to using all tools (Federal Reserve 2020a-l).

Looking at all these steps taken by the Fed from January to mid-June, it was seen that the moves stimulated the flow of credit toward the real economy and the employment market, while on the financial side, it had an effect on reducing the volatility in the markets. While it is agreed that the problem in the liquidity flow has been eliminated and the pressure on the supply of dollars has been alleviated through the swap channel, it is considered that the extent to which the measures and incentives will weaken the financial side will depend on how further the outbreak will last.

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