SINGAPORE (Mar 16): The US Federal Reserve pulled out all the stops on Sunday as it slashed its interest rate for the second time in just as many weeks in a bid to boost the panic-driven economy.
In an emergency meeting, the Fed lowered its target range to 0% to 0.25%, down one percentage point from the previous range of 1% to 1.25%.
It also launched a quantitative easing (QE) programme which will see it boost its bond holdings by US$700 million ($989.6 million) through asset purchases such as US Treasury bonds and mortgage-backed securities.
See: Fed cuts main interest rate to near zero, vows massive bond-buying program
"The effects of the coronavirus will weigh on economic activity in the near term and pose risks to the economic outlook. In light of these developments, the Committee decided to lower the target range," the Fed said in a statement.
"The Committee expects to maintain this target range until it is confident that the economy has weathered recent events and is on track to achieve its maximum employment and price stability goals," it added.
With markets all around the globe reeling from the effect of the Covid-19 pandemic, market watchers say that the Fed had little choice but to slash rates in a bid to shore up the distressed economy.
Oxford Economics notes that the Fed’s move was a timely one to restore normal market functioning, prevent liquidity shortages and ensure credit flow to both households and businesses.
“The Fed decided to “go big” while stepping in as the lender of last resort,” says Oxford Economics.
But the only question on the minds of investors and experts now is a serious one: Is the move enough to save the global economy?
Necessary, but insufficient
While the Fed’s move is undeniably going to improve market sentiments and ease market turmoil, experts say that this is unlikely to have a lasting impact as long as the virus remains uncontrolled at large.
“While this display of force was necessary, it likely won’t prove sufficient to soothe markets without coordinated fiscal stimulus and a visible containment of the virus,” says Oxford Economics.
Nemo Qin, an analyst at social trading platform eToro remains doubtful that the emergency cut will “really help the situation”. But instead, the cut was a strategic move to buy the US more response time.
“The key factor is how the US will actually control the outbreak domestically,” says Qin.
“Cutting interest rates and restarting QE will may help to calm markets temporarily but, crucially, it buys the US government and the Trump administration more time to respond to the crisis,” he adds.
To be sure, the Fed’s cut is expected to help ease the liquidity strain that is being experienced in funding markets. But as productivity losses escalate, this move is unlikely to do much to counter the air pocket in economic activity.
“The key questions to consider are how successful this move will prove to be and what else should be in focus as investors consider long-term positioning,” says Fidelity International’s chief investment officer of Asia Pacific Paras Anand.
“We should anticipate that the US, and other developed economies will incorporate more fiscal measures to stimulate the economy over the medium term,” adds Anand.
Although desperate times call for desperate measures, FXTM's global head of currency strategy and market research Jameel Ahmad opines that the move is not going to be stimulative enough for investors to buy back into the stock markets.
“Not only has the Federal Reserve thrown all of its tools out of the toolbox to help combat the economic pressures that the coronavirus will bring to the world economy, it has done so by firing all of its guns, grenades as well as bazookas at the problem,” says Ahmad,
“It can’t be helped to hold concern following this move regarding what ammunition does the Fed truly have left?”
Recession risks rise
In order to curtail the rapid spread of the virus, several countries have gone into lockdown mode, which in turn impedes the ordinary functioning of economic activities.
This, according to DBS chief investment officer Hou Wey Fook, spells trouble for the global economy.
“Should the lockdown persist, the chance of a recession will increase substantially,” says Hou. “Financial markets have already been pricing in this scenario.”
Market indicators are currently pricing in a 30% probability of a recession, a level that is broadly similar to those during the 2001 dot-com crash.
“While the situation remains fluid, we concur the probability of a recession has increased significantly,” says Hou.
Yet, some reassuring news has presented itself in the form of strong global policy response, which could mitigate the overall impact of the slowdown.
The European governments are stepping up on the fiscal front, with Germany pledging unlimited cash for companies impacted by the virus.
Hong Kong, too, has lowered its base interest rate to 0.86% shortly after the Fed’s announcement.
While there is still a high degree of uncertainty about whether the eventual market rebound will be a “U-shaped” or “L-shaped” one, DBS’s Hou says that this depends on how fast developed economies manage to contain the virus, as well as how robust and coordinated the global economic rescue package will be.
“This week is a critical one for global markets. If the pandemic continues to spread, we expect to see another round of panic selling on the stock markets,” says eToro’s Qin.
Global markets slump
While it may still be too early to project the rebound, markets have already crashed in response to the Fed’s rate cut.
The Dow Jones Industrial Average futures tumbled 1,040 points, or some 4.5%, in response to the emergency cut. The S&P 500 and Nasdaq Composite indices were not spared either, shedding 4.4% and 4.6% respectively.
On a local front, Singapore equities took a hit as well. The benchmark Straits Times Index fell 2.8% shortly after market open, and extended losses to 3.2% as at noon.
OCBC Bank's head of treasury research and strategy Selena Ling says that Singapore is now looking at a 0.9% year-on-year contraction for 1QFY2020 and that the following quarter may well be at risk too.
“While we had assumed that more aggressive policy easing on both the fiscal and monetary policies can avoid a domestic recession for the year, major economies are clearly at risk amid the accelerating Covid-19 outbreak,” says Ling.
“We anticipate that MAS’ next move will be a consecutive monetary policy easing, possibly in the form of moving to a neutral slope for the S$NEER,” she adds.
Rich Handler, CEO of Jefferies Financial Group, has issued a dire warning for investors: The economy will not be returning to a period of low volatility and calm correlations anytime soon.
“Companies or investors who believe this is just another short-term blip and proceed full speed ahead will be putting at risk themselves and the constituencies that depend upon them,” says Handler.
“Just because you are not in one of these industries doesn’t mean you are immune from the eventual pain. It is not hard to connect the dots to just about every industry on the planet and follow supply chains, demand curves and changes in customer behavior to realize the world has changed for every one of us,” he adds.
With the number of Covid-19 cases still rising at what analysts term an “alarming” rate, the implications on the economy are far from over.
“Rate cuts are not effective if the transmission mechanism to households and companies is impaired,” says JP Morgan Asset Management’s Kenny Craig.
“Ultimately the global economic shock from COVID-19 needs a global response. Central banks are ahead of governments on this, but more fiscal policies are being announced each day. We really need to see the fiscal side be more immediate to prevent a longer than needed economic slowdown,” he adds.
