March 3, 2020
  • The Federal Reserve (Fed) cut the federal funds target rate by half a percentage point (0.50%) to blunt some of the downside economic risk from the coronavirus (COVID-19) outbreak.
  • The Fed appears ready to do more, and we anticipate 0.50% of rate cuts by the Fed in short order, along with action from global central banks.
  • We also anticipate that the recent volatility in global stock and bond markets will persist.

What Happened

The Federal Reserve lowered the federal funds target rate by half a percentage point to a range of 1.00% to 1.25%. This may not technically be a coordinated effort with other global central banks, but came on the heels of a conference call among the Group of Seven (G-7) finance ministers. The Fed cut was an intermeeting change, which is rare, occurring only six times in the past 20 years.

Actions by Global Central Banks

There has been a flurry of action from other global central banks over the past few days. For instance, central banks in Australia, Malaysia and Indonesia cut their benchmark interest rates. The Bank of Japan has also stepped up repurchase agreements for government debt and purchases of Japanese stocks (using exchange trade funds).

Meanwhile, leaders from several central banks, including the European Central Bank, Bank of England and Reserve Bank of India, have publically stated a willingness to cut rates as well. The Bank of Canada’s regularly scheduled meeting is tomorrow, March 4, and it is widely expected to be the next to act.

Context: Recent History of Intermeeting Rate Cuts

There is precedent for intermeeting rate cuts by the Fed. As was the case today, intermeeting actions tend to be larger than the typical quarter point (0.25%) rate cut.

The last intermeeting action was October 8, 2008, in the aftermath of the collapse of Lehman Brothers. The Fed, European Central Bank, Bank of England, Bank of Canada and Sweden’s Riksbank lowered their benchmark interest rates by half a percentage point in a coordinated effort to ease the economic effects of the Great Recession.

The October 2008 intermeeting rate cut came at the end of a series of Fed cuts that spanned a year and a half. At the onset of the subprime-mortgage collapse in August 2007, the Fed cut rates by half a percentage point, and again by 0.75% in January 2008.

Key Points from the Powell Press Conference

In his prepared remarks, Chair Powell underscored the stable US economic outlook, though noted that the COVID-19 situation posed evolving risks to economic activity.

Chair Powell clearly stated that the rate cut was not coordinated, although he acknowledged that the Fed has been in contact with many global central banks. He also said it was possible that more formal coordination in the future could occur.

With respect to the rate-setting committee’s thinking, Powell stated that the rationale for today’s rate cut was to keep the US economy strong. The committee did not discuss the use of other monetary policy tools at this time, nor did they discuss the pacing and timing of future actions.

Bottom Line

In our view, this action was meant to blunt some of the downside economic risk from the COVID-19 outbreak. The lowering of rates should help to ease financial conditions and alleviate some of the downside economic concerns.

We think that COVID-19 will have an economic impact on the US in the first and second quarters 2020. However, it is too early to peg the exact magnitude of that impact. At this point, we expect that the economic impact should be much more muted relative to China and other parts of the global economy. Furthermore, despite heightened risks, a US recession is not our base case.

Nonetheless, the Fed appears ready to do more, and we expect more action from the Fed as well as from other global central banks. We anticipate 0.50% of rate cuts by Fed in short order, which could very well come as soon as the next scheduled Fed meeting on March 18 or by mid-summer. The bond market and implied probabilities are pricing in 0.50% in cuts by June and perhaps further cuts later in 2020.

Lastly, this situation is developing very rapidly. While support from global central banks should help, we also expect that the recent volatility in global stock and bond markets will persist until there is more clarity.

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