Market Mollification: The Fed Increases Bond Purchases

The coronavirus has had significant impacts on the global economy, and the United States is no stranger to its repercussions.

The US government reported that the number of initial unemployment claims rising to 281 000 in the last week is far larger than any movement during, and since the Great Recession in 2008.

In the last week, the American markets came to a halt with investors panicking over the viral outbreak. Over the last few weeks, Americans have faced interest rates that have spiked for corporations, as well as local and state governments, as well as the drying up of cash accesses.

On March 15, the Federal Reserve announced that it would help to absorb some of the aftershocks of the outbreak by buying at least $200 billion of mortgage-backed securities and $500 billion of Treasuries. The Fed has served as a instrument for state power (specifically economic power), and while it responds to the President and the American Congress, it has both legally and traditionally had the ability to reach its assigned goals however the central bank deems best.

Yet, during emergencies such as COVID-19, as Fed officials must consider how closely to coordinate with the American legislative and executive branches, it is becoming apparent that the Fed may need to step in with greater force than exhibited during the 2008 financial crisis.

The Fed has begun to use its power and capacity to prevent the pandemic from becoming a financial crisis as well. Its emergency steps intend to pump cash into the American financial system in which investors have been unloading Treasuries, and securities such as municipal bonds. On Friday March 20, the New York Fed did its part by buying approximately $280 billion of Treasuries and promised to buy $100 billion of the mortgage-backed bonds in the next week, specifying $40 billion on Monday alone.

The Fed also announced its plan to expand an emergency lending program called the Money Market Mutual Fund Liquidity Facility. First used in 2008, its goal is to provide money to banks on loan to purchase highly rated municipal bonds from either money market mutual funds, or a new addition: municipal bond funds.

As public institutions face higher operational costs, especially health programs and hospitals, the Fed has been criticized by Democrats for not using it power to assist local governments who are suffering during the outbreak. The Fed responded by saying its actions on Friday were for aiding the financial markets. It did, however, explain its goal to help balance the $3.8 trillion municipal bond market to ensure that public entities (such as hospitals), and states and cities can borrow money at a lower cost. The muni bond market is an American financial institution that allows over 50 000 local and state government units to raise money for funding public institutions and purposes such as public buildings and water systems.

The speed at which the Fed has approached this looming financial crisis is unprecedented for the normally cautious central bank. Many programs that were implemented over the course of months during the 2008 financial crisis were implemented in a few days. However, the Fed is still finding itself lagging behind compared to the scale of the pandemic.

In order to catch up the pandemic, the Fed may require expanding their support to more types of companies and debts, rather than just companies that have “commercial paper”, a type of short-term debt. The Treasury has directed money towards this program in order to protect the Fed from any losses it may incur from bad loans, and this could be applied to allow the Fed to aid credit-worthy companies from having their borrowing costs ramp up. Yet, the Fed has yet to support small businesses to the same scale it has large companies, and to truly prevent a financial crisis, small businesses require loans just to continue making payroll through the suspensions from the virus.

On the other hand, many of the required solutions involve the Fed taking a greater interest in the details of credit allocation in the American economy- more than the American government and even the Fed might like. However, the reality is, the economy is facing disaster, and the Fed will have to wield its power to ensure it is not one with long-standing repercussions.