Fed Chair Powell’s Mario Moment…

BlackRock’s CIO of Global Fixed Income and Head of the Global Allocation Team weighs in on recent Federal Reserve policy moves and what they might mean for markets.

In a dramatic move on Sunday evening the FOMC took a series of policy actions intended to forestall the economic slowing that is anticipated as a result of the coronavirus spread in the U.S., and the governmental and private sector policies seeking to address it. Just to recap a few points from Federal Reserve Chair Powell’s press conference: the FOMC cut its Fed Funds policy rate by an historic 100 basis points, to a 0.0% to 0.25% range, as well as cut its bank borrowing cost from the discount window by 150 basis points, to 0.25%, with term funds to be offered. Additionally, the Fed is committing to $500 billion of Treasury purchases and $200 billion of mortgage-backed securities purchases, in a program it styles less as quantitative easing and more as operations to improve market functioning.

To that end, the central bank also set new parameters on its foreign exchange swap lines, and will conduct repo open market operations at 0.0%, while also taking supervisory action to support the flow of credit. Finally, rather than place a pre-determined time limit on its accommodative policies the Fed stated that: “The Committee expects to maintain this target range until it is confident that the economy has weathered recent events and is on track to achieve its maximum employment and price stability goals.”

The Fed Chair emphasized that the central banks’ market operations are now, appropriately in our view, purchasing assets all along the yield curve, and while the coronavirus’ effects on the economy are uncertain, the Fed’s toolbox is still full of equipment. Indeed, the Committee has scope to expand purchases or continue to purchase at a brisk pace to provide further policy accommodation, to the degree it is perceived as effective. “We think we have plenty of policy space,” Chair Powell suggested in the press conference, also citing the continued “room for more forward guidance and more asset purchases.” In a very real sense, this is the more understated Chair Powell’s “Mario Draghi Moment” where like the former President of the European Central Bank, he’s effectively committed to “do whatever it takes” to aid the economy through this stressful period.

Alleviating stresses in the short-term markets

Then, on Tuesday morning, the Fed announced its decision to reinstate funding facilities for commercial paper, which we had expected it would likely have to do. That’s because the financial plumbing system has been quite challenged. As a case in point, volatility in the overnight funding markets was on display on March 16, when the intraday trading range for Treasury general collateral was a remarkable 300 basis points (-0.25% to 2.75%). The overarching theme in the funding space is a simple lack of balance sheet capacity- primary dealers are being stretched, and while general collateral has been trading in a more orderly manner yesterday and today, we’re still trading at a wide spread to IOER.