Submitted by Taps Coogan on the 5th of March 2020 to The Sounding Line.
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The Fed’s decision to execute a surprise double rate cut (0.5%) in response to the Coronavirus outbreak is a stark reminder that the Fed now interprets it’s mandate to mean: cut rates and print money to preempt any slowdown in the economy or markets, whatever the level of growth and markets, whatever the effectiveness, and whatever the cause.
When asked to provide some depth behind the reason for the surprise rate cut, Fed Chair Jerome Powell had very little to add beyond saying that the rate cuts were intended to prevent financial conditions from “tightening” and to “boost consumer confidence.” The Fed did not paint its actions with even the thinnest veneer of technical justification. Markets have finally, belatedly reacted to the Coronavirus and therefore the Fed is cutting rates. It appears to be that simple.
Monetary policy was already highly accommodative before this outbreak started. Short term interest rates are very low. Long term rates are the lowest in American history. Real rates are deeply negative across the entire yield curve. The Fed has been aggressively expanding its balance sheet and is actively subsidizing funding markets. Before this outbreak started, the Fed’s policy stance was commensurate with the response to a deep recession.
If there was ever a phenomenon that should prompt the Fed to recognize the limits of its mandate and effectiveness, this would be it. Further rate cuts will do nothing to help the Coronavirus outbreak. They will do nothing to help get consumers back out in public, nor would that be desirable during the outbreak of an infectious disease. They will do nothing to ease supply chain interruptions. What good does it do to create artificial demand in an environment were supply is constricted? What good does it do to push risk assets higher as risks grow? Why make very accomodative policy even more accomodative before the economic effects of the outbreak become more clear?
To understand the risks of being over stimulative, look no further than the massive selloff that markets just endured. Stimulative policy has so wildly disconnected markets from reality that they were making aggressive new highs 75,000 cases into the current Coronavirus outbreak and despite weak industrial production, weak profit growth, and shrinking global trade figures. That disconnect simply translated into massive selling when markets eventually woke up to the risks. Nothing was gained.
If the Coronavirus outbreak worsens, the Fed’s surprise rate cuts will not have a meaningful effect on the economy. If the outbreak gets better, monetary policy will be wildly too accomodative, even more so than before the outbreak started.
Not only are these rate cuts futile, they portray a Fed that has lost perspective, that is no longer acting strategically even within the context of its own thinking. These rate cuts show a Fed that is incapable of seeing the bigger picture.
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