They include big new lending programs — but state and local governments are left out of the party.
Early Monday morning before financial markets opened, the Federal Reserve announced a dramatic series of moves designed to promote economic stability as the coronavirus pandemic continues to batter the US economy, sending unemployment claims skyrocketing and pushing the economy into recession.
The spirit of today’s announcement is basically: pull all the levers.
The Fed’s moves are dramatic, somewhat complicated, and unprecedented, but they have a pretty simple purpose — try to make it cheap for all kinds of entities to get loans while hoping public health officials can get the virus under control and Congress can act to provide the kinds of economic support that only it can offer.
But for all that the Fed is doing — an alphabet soup of new, revived, and expanded programs involving eye-popping sums of money — it’s also noteworthy that monetary policymakers aren’t doing anything to deviate from the same basic inflation targeting paradigm they’ve used for decades now. It will help reassure the world that nothing too wild is going on here, hopefully bolstering the political legitimacy of dramatic new steps. But it also likely blunts the real-world impact of these measures. In this case, going even further to include financial support to state and local governments, or announcing that the central bank is moving beyond its longtime emphasis on inflation targeting could be even better.
It starts with unlimited QE
For a long time, the Federal Reserve’s approach to stabilizing the economy was largely limited to setting short-term interest rates. During the Great Recession, short-term rates went to zero and the economy was still depressed. That led the Fed to undertake multiple rounds of what’s somewhat confusingly come to be known as “quantitative easing,” which basically means the Fed announces it’s going to buy such-and-such billion dollars’ worth of longer-term bonds and then goes out and does that.
Interest rates were already low at the start of the coronavirus crisis, so the Fed cut rates on March 3 and then cut rates again, all the way down to zero on March 15. Then it rapidly announced a plan for $700 billion in quantitative easing — $500 billion worth of US government bonds and $200 billion worth of bonds issued by Fannie Mae and Freddie Mac (these are called “agency-backed securities” in Fed-speak).
Monday’s announcement expanded the QE program in two ways. First, it uncapped the quantity of quantitative easing, saying simply that the Fed “will purchase Treasury securities and agency mortgage-backed securities in the amounts needed to support smooth market functioning and effective transmission of monetary policy to broader financial conditions and the economy.” Second, it is expanding the scope of what can be purchased to include commercial real estate (things like offices and stores) backed by Fannie and Freddie to ensure low interest rates throughout the sector.
But wait, there’s more!
A bunch of new programs
In traditional monetary policy, short-term interest rates are the lever that moves the whole economy. Rates on long-term government bonds go down when short-term rates go down, and rates on corporate debt go down when rates on government debt go down. So even though the short-term rates are not themselves particularly important, the workings of profit-seeking traders ensure that the impact propagates throughout the economy.
QE exists as an alternative means of impacting long-term rates without trying to make short-term rates go below zero (which runs the risk that people will resort to storing physical cash in vaults rather than suffering negative rates). But the Fed is also worried that there is so much fear in financial markets that the economic impact won’t propagate naturally. So they are launching a huge alphabet soup of credit facilities.
- The Primary Market Corporate Credit Facility (PMCCF) will buy newly issued corporate bonds, typically from large employers.
- The Secondary Market Corporate Credit Facility (SMCCF) will buy existing corporate bonds to give people confidence that this remains a “liquid” market and thus they don’t need to panic-sell corporate debt they already own, or fear buying new debt from credit-worthy companies.
- The Term Asset-Backed Securities Loan Facility will buy asset-backed securities (basically packages of loans) composed of student loans, auto loans, credit card loans, and other forms of consumer debt plus some Small Business Administration loans.
- The Money Market Mutual Fund Liquidity Facility will expand the range of things it buys to include a kind of municipal bond called a “municipal variable rate demand note” as well as bank certificates of deposit, which are basically medium-term loans consumers make to retail banks.
- The Commercial Paper Funding Facility is going to expand to include “high-quality, tax-exempt commercial paper,” which is a kind of business debt that allows state and local governments to create tax subsidies for businesses.
All this is happening today.
Meanwhile, the Fed is not quite ready to explain the details or launch, but it also previewed that it expects “to announce soon the establishment of a Main Street Business Lending Program to support lending to eligible small- and medium-sized businesses, complementing efforts by the SBA,” or Small Business Administration.
It’s not entirely clear what that will look like. But it exemplifies the spirit of Monday’s announcement, which is basically, pull all the levers. Traditional logic would say that actions in the corporate bond market (which is tapped by bigger businesses) should trickle down to small businesses and consumer credit. But today’s Fed isn’t taking chances with either the economic impact or the impact on political legitimacy. All kinds of loans — federal government debt, consumer debt, corporate debt, mortgage debt, commercial real estate debt, and small business debt — are going to get help.
But there’s one big exception: state and local governments.
A glaring missing piece
The Federal Reserve has been clear for weeks that it cannot tackle the problems facing the economy alone and it wants support from fiscal policy — stimulus measures enacted by the United States Congress.
But Congress is not the only government actor in the US. States and localities have tremendous leverage and they actually do much more direct employment than the federal government. Cops, firefighters, teachers, and librarians are primarily employed by local governments, and construction projects on roads and other infrastructure are largely financed through state government.
As Skanda Amarnath, the director of research and analysis at Employ America and a former New York Fed research analyst, points out, the glaring exception to the Fed’s new aggressiveness is it is doing very little on state and local debt even though it has the legal authority to help here.