Fed Surprise Coronavirus Rate Cut; More Cuts Possible

Vito J. Racanelli

Well, they went and did it. In the words of the astronaut George Taylor (played by Charlton Heston) at the end of the original “Planet of the Apes” movie, “They finally really did it,” he says, while pounding the surf. It was the nuclear option.

So the Federal Reserve’s Open Market Committee (FOMC) “surprised” markets Tuesday with a 50 basis points rate reduction to the Fed funds rate, bringing it to a range of 1.00%-1.25%. I put surprise in quotes because I think the only shock was to newbies on Wall Street. Our very own new kids in the office here asked if the Fed was “allowed” to make a move outside an FOMC meeting. Isn’t naivete wonderful?

Anyway, the Fed chose the nuclear option to calm investor fears of the spreading coronavirus. I don’t know that it will do much to spare the economy from the fallout, but perhaps the Fed felt it had to do something, anything. The move is controversial as the Fed now has less bullets if and when a recession comes along.

I say “surprised” too because anyone closely following the bond markets and the Fed futures markets were not surprised. Indeed, right here in these pages last week I noted that the bond market action as well as the CME Fed futures trading were showing that a cut or cuts were coming. For the stock market reaction see page 1.

This somewhat unusual Fed action (between meetings cuts have been done only six times since 1998) is meant to boost investor confidence, prevent financial conditions from worsening and help cushion the U.S. economy against a global growth downturn. Other central banks, like the Bank of Canada, followed the Fed’s lead and cut rates.

In a press conference after the rate cut, Fed Chairman Jerome Powell said the central bank “took this action to help the U.S. economy keep strong, in the face of new risks to the economic outlook. The fundamentals…remain strong.” But he added, “the virus and measures being taken to contain it will weigh on economic activity here and abroad for some time.”

Separately, the Fed Beige book release said—unsurprisingly—that the coronavirus is weighing on U.S. firms. Companies are worried the spread of the disease in China would hold up shipments and reduce Chinese demand for commodities, according to the Beige book.

The Fed continues to supply tens of billions in liquidity during the week to meet demand for short-term cash through repo operations and short-term loans in the money markets. Friday it was nearly $90 billion. This strong demand has also helped to drive down Treasury rates. Fed money-market interventions are designed to maintain the fed-funds-rate target range.

The yield on the benchmark 10-year U.S. Treasury note settled at 0.78%, new historic lows, compared to 1.00% one week ago. The CME Fed futures market, a historically a good indicator of rate trends, points to a strong probability of another rate 50 bps cut at the upcoming FOMC meeting March 17-18.
Wow.

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Vito J. Racanelli
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