There will be no shortage of headline fodder in the days ahead, that’s for sure.
Most obviously for markets, the Fed and the ECB are set to provide what, at this point, will probably just amount to progress reports. Having spent the last several weeks putting out fires, buying trillions in assets and backstopping everything that “counts”, it’s not immediately obvious what the “low-hanging fruit” would be if Jerome Powell or Christine Lagarde wanted to do more.
Narayana Kocherlakota wants negative rates from his former colleagues in the Eccles building. He explained his rationale in a highly amusing Bloomberg opinion piece last week. I call it amusing because Kocherlakota adopts an almost everyman cadence at times, and chides the Fed with overt derision.
“The unemployment rate is expected to reach double digits by June… and in the absence of a COVID-19 vaccine, the malaise will likely persist well into 2021”, Kocherlakota wrote, adding that “any Economics 101 student knows that in such a dire situation, the central bank should cut interest rates to stimulate growth and job creation”.
As for those who might be inclined to point to Europe and Japan as examples of how negative rates have arguably been counterproductive where they’ve been tried, Kocherlakota essentially says that’s nonsense. “Several European central banks, as well as the Bank of Japan, have successfully taken interest rates below zero”, he says. Again, that depends heavily on your definition of “successfully”.
His comments on financial stability are outright scathing and could actually resonate with an audience that might otherwise be predisposed to dismissing negative rates out of hand. Consider the following:
Another of the Fed’s concerns about negative rates has to do with financial stability – a relatively new (and completely made up) responsibility of central banks.
Sure, negative interest rates would help lower the unemployment rate from what is likely to be its highest level since World War II. But officials worry that they will also weigh on banks’ profitability, pushing down share prices and making the financial system more vulnerable to distress. Put crudely, the Fed is giving up on unemployment reductions to help keep banks and their shareholders safer.
The Fed is inventing a trade-off where none exists. If the central bank really cares about financial stability, it has many tools to ensure it. Right now, for example, it could block large banks from paying dividends, a practice that erodes the capital they need to absorb losses.
The entire Op-Ed has a kind of “Well, when you put it that way…” feel to it.
Anyway, it matters little. Jerome Powell isn’t going to announce negative rates this week, despite the likelihood of an imminent disinflationary spiral, something Kocherlakota also mentions.
In that context (i.e., when pondering deflation risk) the simple visual below seems all kinds of perilous.
And lest we should forget, core inflation turned negative (sequentially) last month for what might as well have been the first time in a decade.
That is, March saw the first material monthly decline in core since 2010.
Of course, COVID-19 has its inflationary side too, something that’s manifesting itself in record high prices for wholesale beef. Over the weekend, JBS SA said it plans to close a Wisconsin beef production facility due to an outbreak.
“Given the continued spread of coronavirus in our community and among our workforce, we have decided to voluntarily close our Green Bay facility in an effort to help flatten the curve of infections in Brown County”, JBS USA president Shannon Grassl said, in a statement, adding that although the company has been “focused on doing everything we can to keep the virus out of our facility… we believe a temporary closure is the most aggressive action we can take to help our community collectively slow the spread of COVID-19”.
Looming meat shortages notwithstanding, coronavirus represents the single largest demand shock since the Great Depression. And while the crisis might eventually metamorphose into an inflationary supply shock, the disinflationary impulse will dominate for now. That, in turn, will make central banks’ jobs harder.
As a side note, the effective rate is some 6bps below IOER, so it’s conceivable we’ll get a tweak there this week from the Fed.
“There’s not much anticipation”, SocGen’s Klaus Baader said Sunday, of the Fed meeting. “We’ll await the Fed’s views on the economy, but its immediate view is to the downside – and the data supports that view”.
“This is expected to be little more than a status report while providing an update on the Fed’s evolving views about the economic outlook”, Axicorp’s Stephen Innes said over the weekend.
We’ll get the advance read on first quarter GDP this week, which should be amusing even as the real fireworks won’t come until Q2. Eurozone GDP is on deck as well.
As for Christine Lagarde and the ECB, it’s conceivable the Governing Council could top up PEPP (the pandemic purchase program). The bank has already committed to buying more than €1 trillion in assets this year, and a Bloomberg survey of economists projects the figure will eventually rise to more than €1.5 trillion. Late last week, the ECB followed the Fed in announcing a cushion for fallen angels.
Meanwhile, the BoJ was all set to follow up on last month’s stop-gap decision to up purchases of ETFs with new promises to buy more assets. Measures aimed at ensuring credit flows to businesses hard-hit by the epidemic were expected as well.
Remember, Japan came into the pandemic reeling thanks to a drag from the tax hike and a typhoon. A recession was virtually assured before anyone even knew what COVID-19 was.
Sure enough, the BoJ removed limits on JGB buying Monday. The bank will now buy bonds with “no limit“.
To be clear, there is no end in sight to this, where “this” means central banks buying obscene amounts of assets and otherwise intervening in markets. So, if you’re in the camp that is genuinely offended by monetary largesse or is prone to screaming “moral hazard” whenever you get the opportunity, this is going to be a rough six months for your sanity.