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Fed Cuts Rates to Near Zero and Will Relaunch Bond-Buying Program — Update

By Nick Timiraos 

WASHINGTON -- The Federal Reserve slashed its benchmark interest rate to near zero Sunday and said it would buy $700 billion in Treasury and mortgage-backed securities in an urgent bid to prevent market disruptions from aggravating what is shaping up to be a severe economic slowdown from the coronavirus pandemic.

The Fed's rate-setting committee, which delivered an unprecedented second emergency rate cut in as many weeks, said it would hold rates at the new, low level "until it is confident that the economy has weathered recent events and is on track" to achieve its goals of stable prices and strong employment.

Fed Chairman Jerome Powell is set to hold a news conference at 6:30 p.m.

"The coronavirus outbreak has harmed communities and disrupted economic activity in many countries, including the United States," the committee said in a statement Sunday, before Asian markets opened. "The Federal Reserve is prepared to use its full range of tools to support the flow of credit to households and businesses."

The Fed will buy at least $500 billion in Treasury securities and $200 billion in mortgage-backed securities over the coming months to help unclog markets that grew dysfunctional last week, the central bank said.

The Fed launched three such bond-buying campaigns, called quantitative easing, to repair market functioning and stimulate growth between 2008 and 2014, and officials said they would initiate the latest round of purchases beginning Monday.

The coronavirus crisis has escalated sharply in recent days, with school closures and event cancellations cascading across the country. Companies sent workers home, and smaller businesses grappled with how to survive. Consumers, meanwhile, have stocked up for an uncertain period in which they are being asked to stay at home to combat the virus's spread.

Many Wall Street forecasters now expect the economy will fall into recession during the first half of the year, and the shape of the recovery could be determined largely by how local, state and federal health officials mitigate the spread of the virus.

Intense market volatility prompted the Fed to take several unusual steps last week to arrest strains in the Treasury market, considered the most liquid bond market in the world.

Those included offering nearly unlimited amounts of short-term lending to a group of 24 big banks, known as primary dealers, that function as the Fed's exclusive counterparties when trading in financial markets. When banks were slow to take the Fed up on those loans, it pivoted Friday to buying $37 billion in Treasurys in one swoop.

But late Friday it appeared those actions hadn't restored normal functioning in the Treasury market -- let alone in riskier ones for mortgage bonds, commercial debt and municipal credit, prompting an even bolder approach on Sunday.

The central bank on Sunday announced a series of steps to boost lending, including by lowering the rate charged to banks for short-term emergency loans from its discount window to 0.25% from 1.75%. That rate is lower than it was after the height of the 2008 financial crisis.

The central bank said it would encourage banks to tap their capital and liquidity buffers to lend to households and businesses affected by the coronavirus.

It also adjusted a program with five other foreign central banks, including the European Central Bank and the Bank of Japan, to make U.S. dollars available overseas at near-zero interest rates and for periods of up to 84 days to ensure markets don't run short of the currency outside of the U.S.

Many business transactions take place outside of the U.S. in dollars and foreign institutions also lend in dollars. The Fed used these "swap" lines aggressively in 2008 and 2009.

"The Fed did just about everything they could do, as a professional, operationally independent central bank with the tools they alone control, with great speed," said Simon Potter, who served as the New York Fed's markets chief from 2012 until last year and is now a fellow at the Peterson Institute for International Economics in Washington.

The rate-setting Federal Open Market Committee approved Sunday's actions with nine members in favor. One member, Cleveland Fed President Loretta Mester, dissented against the decision to lower the fed-funds rate to its new range, instead preferring a range of 0.5% to 0.75%.

In a sign of the growing urgency behind these actions, the Fed moved Sunday rather than wait until its next regularly scheduled two-day meeting set for this Tuesday and Wednesday. Sunday's action followed an emergency half-point cut on March 3. Since the central bank began announcing its rate moves in 1994, the Fed has never moved to cut interest rates on two separate occasions in between scheduled meetings.

"The timeline for making the call to go to zero and all-in has collapsed in on the Fed with virus escalation, alarming developments in fixed-income [and] credit markets and failed policy efforts from Trump" and the European Central Bank, wrote Krishna Guha and Ernie Tedeschi of Evercore ISI in a report to clients on Saturday.

Rising market volatility reflects a constellation of challenges. They include business continuity plans by Wall Street banks that have led trading teams to work from multiple sites or remotely; postcrisis regulations that have made individual large banks more resilient but restricted their ability to quickly warehouse assets being sold by financial firms; and hedge funds caught up in bond trades that became extremely unprofitable when volatility soared, leading to more volatility as those trades unwind.

Market functioning matters especially to the broader U.S. economy because, compared with other wealthy countries, a greater share of economic activity is financed through bond markets rather than through banks.

The upshot is that the Fed is being forced to update its 2008 crisis playbook much sooner than anyone expected one week ago to prevent these dislocations from leading to a much more serious recession.

The central bank has a number of off-the-shelf tools it also could deploy, though some would require invoking emergency authorities and receiving signoff from the Treasury Department.

One example is a facility to finance short-term commercial debt. Such a facility, which the Fed used during the 2008 crisis but which now would require Treasury Department approval, would help companies that rely on the commercial-paper market to tap short-term cash for unanticipated funding pressures.

The virus shock has delivered a blow to this market by raising concerns that borrowers will be less creditworthy as they face falling revenues. Clogged commercial paper markets could lead firms to instead draw on bank lines of credit, which could raise funding needs for banks.

Relaunching some version of the 2008 "Commercial Paper Funding Facility, " in which the Fed would buy such debt directly, could buy time while officials come up with additional schemes to get cash to strapped businesses and health-care systems.

Those tools could require greater coordination with the U.S. Treasury, which has access to $94 billion through an obscure pool of money known as the Exchange Stabilization Fund that doesn't require congressional authorization.

Those funds could be used to devise ways to quickly get loans to self-employed workers, small and midsize businesses and municipal debt markets, which are likely to play significant roles funding the health-care system as it battles the coronavirus pandemic.

Write to Nick Timiraos at nick.timiraos@wsj.com

 

(END) Dow Jones Newswires

March 15, 2020 18:26 ET (22:26 GMT)

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