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LAM Blog Post: Policy Response to COVID-19

  • By: admin
  • On: 05/28/2020 10:20:53
  • In: News
  • Comments: 0

NCPERS hosted a webinar with Lazard Asset Management, “Life on the Other Side of COVID-19” with Ronald Temple. Ron divided the COVID-19 crisis into four parts: healthcare, the economy, policy responses, and investment implications. In this blog, we will breakdown the policy responses.

The Monetary Policy Response

In 2008, when Lehman Brothers failed, the Federal Reserve (“the Fed”) Funds rate was two percent, and the Feb took two months to lower the rate to zero. Having learned from its mistake 12 years ago, in the COVID-19 crisis the Fed cut rates within days and launched an unlimited quantitative easing (QE) program. 


 

LAM Blog Post: Policy Response to COVID-19

NCPERS hosted a webinar with Lazard Asset Management, “Life on the Other Side of COVID-19” with Ronald Temple. Ron divided the COVID-19 crisis into four parts: healthcare, the economy, policy responses, and investment implications. In this blog, we will breakdown the policy responses.

The Monetary Policy Response

In 2008, when Lehman Brothers failed, the Federal Reserve (“the Fed”) Funds rate was two percent, and the Feb took two months to lower the rate to zero. Having learned from its mistake 12 years ago, in the COVID-19 crisis the Fed cut rates within days and launched an unlimited quantitative easing (QE) program. Typically, the Fed provides liquidity to banks who post collateral to secure their borrowings. In a QE program, the Fed buys securities rather than lending against securities held as collateral. During the COVID crisis, the Fed has purchased over $2 trillion of assets, taking its balance sheets to $6.7 trillion. Before Lehman Brothers failed in 2008, the Fed's balance sheet was $900 billion.

Since the crisis began, the Fed has announced eight primary programs intended to improve access to funding for state and local governments, corporations, and consumers. On April 9, the Fed announced facilities that could extend up to $2.3 trillion in incremental financing to Main Street, large corporations, and state and local governments. For the first time, the Fed indicated it would purchase non-investment grade corporate debt (if the issuer had been investment grade as of March 22 and still had a rate of BB-/Ba3 or above at the time of Fed purchase). This announcement has led to the desired market reaction despite the fact that only five of the eight facilities are functioning and have provided less than $100 billion of funding.

The Fed is not the only central bank providing liquidity. The European Central Bank (ECB) announced it would purchase 750 billion euros of securities to provide liquidity. The ECB announced it would provide start allowing banks to post collateral that was investment grade as of April 7 but has since been downgraded to a credit rating no lower than BB. Unlike the Fed, the ECB is still not buying non-investment grade debt even though it is accepting it as collateral.

The Fiscal Policy Response

The U.S. has announced $2.9 trillion of fiscal stimulus through four pieces of legislation. Ron's key points are:
  1. Large corporations are the most likely to succeed. With $454 billion being allocated to the Treasury to use as equity capital for Fed lending, the Fed and Treasury have massive latitude to be creative.
  2. Small businesses are the most challenging. The fourth stimulus added $310 billion to the already exhausted $350 billion of the Paycheck Protection Program (PPP). As of May 16th, $196 billion of forgivable loans have been approved for 2.76 million borrowers in this second tranche of small business funding.
  3. The aid to households and state and local governments is insufficient. The crisis has hit state and local governments hard and unfortunately partisan politics are getting in the way of this need. However, Ron does believe that the fifth piece of legislation will provide further grants to households, state, and local governments.
The U.S. is not alone in deploying stimulus packages. The U.K. and Germany have been aggressive in their stimulus. On April 16, the European Union agreed on a stimulus package of 540 billion euros of loans to EU countries. Ron believes the biggest problem with this approach is that the stimulus consists of loans. Countries that are deeply in debt, such as Spain and Italy, need grants rather than more loans. Unfortunately, the EU does not have the same ability as the U.S. federal government to provide grants.

With the healthcare, economic implications, and policy responses in mind, the final blog post will be about the investment implications.

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