In what is this week’s most closely watched event, at 9am Fed Chair Powell will speak live at the Peterson Institute for International Economics (via webcast of course). The description of the event says he’ll make “remarks on current economic issues”, which will be followed by a discussion with the Peterson Institute’s president. The market expectation is that he’ll discuss future policy options including negative rates in light of last week’s unprecedented move which saw fed funds futures price in negative rates in late 2020 and early 2021 which various Fed presidents have been very reluctant to endorse of late, amid fears sub-zero rates would hurt bank profits and crush money markets which now hold a record $4.8 trillion, ultimately hurting rather than helping the economy.
AS DB’s Jim Reid writes, one President that was only too happy to endorse a negative rate policy was Mr Trump who said in a tweet yesterday that “As long as other countries are receiving the benefits of Negative Rates, the USA should also accept the “GIFT”. Big numbers!” That came as we heard from a number of Fed speakers, who all warned of the potential for massive economic damage. St. Louis Fed President Bullard said that “You will get business failures on a grand scale and you will be taking risks that you would go into depression” if the shutdowns last as long as 90 or 120 days. Meanwhile, Dallas Fed President Kaplan also said in a CNN interview that “If we get to a peak unemployment rate, which we think will be around 20%, and we end the year around a 10% unemployment rate, there may well need to be more fiscal stimulus in order to boost economic growth”. We also heard from the Fed’s Quarles during the day and he said that the Fed could curtail Wall Street banks’ ability to pay dividends by cranking up the amount of capital they need to maintain due to the coronavirus crisis. Later in the evening, Cleveland Fed President Mester said that unemployment is likely to reach or pass 20% in the US, before a slow and uncertain economic recovery in the fall of 2020.
Powell’s speech comes at a time when, as Bloomberg put it, the Fed is facing the “possibility of mass bankruptcies and long-lasting unemployment unless there’s a more concerted government effort to shield the U.S. economy from the impact of the coronavirus pandemic.” Today’s unexpectedly big drop in PPI only cements the fear that deflation may soon take hold unless the Fed does even more. But what more can the Fed do, absent NIRP or Yield Curve Control at a minimum?
To be sure, while denying it is considering negative rates, the Fed has also insisted more can and probably will need to be done, both by the central bank and by lawmakers who have already backed $2 trillion in virus relief. Democrats on Tuesday proposed a further $3 trillion in aid, though the plan has little chance of quickly gaining traction with President Donald Trump or Senate Republicans.
“Powell is likely to push back on adopting negative rates, reinforce his willingness to continue using balance sheet tools, and lean on fiscal policy makers to do more,” said Neil Dutta, head of economics at Renaissance Macro Research in New York.
One thing the Fed can do ahead of full-blown NIRP is a a move toward yield-curve control policy. That would entail the central bank setting a target for yields on longer-term Treasury securities in addition to its overnight benchmark, and buying or selling Treasuries as needed to hit the target. It’s something the Bank of Japan has implemented successfully in recent years, and something that Fed officials had been discussing as a possible crisis measure to consider down the road, before the coronavirus outbreak began.
Former New York Fed officials Krishna Guha and Simon Potter, have called for the FOMC to be more specific, and as Bloomberg notes, they advocate a pledge to keep rates at zero at least until the unemployment rate has fallen back down to 4%. “We would like to see a very strong lean in to enhanced forward guidance and regular open-ended QE,” Guha, now vice chairman of Evercore ISI in Washington, wrote Tuesday in a note to clients.
“Our baseline expectation is a more moderate lean that does not rule out negative rates in all states of the world and stops short of embracing our own aggressive forward guidance proposals or a specific June timeline for delivering new policy settings.”
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So what, if any, of these options will Powell endorse, how will he seek to crush expectations of negative rates, and how does he view the Fed’s role in restoring normalcy with a balance sheet that is expected to hit $12 trillion some time next year? For the answers watch live stream below: