In March, as the Dow Jones Industrial Average dropped 2,000 points in a single day and investors turned away from U.S. Treasuries — considered the safest investment — the U.S. Federal Reserve sharpened its tools.
It was clear by now that covid-19 was a global crisis. Korea, Italy and Iran saw big outbreaks simultaneously.
“That was the moment of truth,” said Federal Reserve Chairman Jerome Powell during an interview with 60 Minutes. Markets were trying to process the unknowable, he said — that is, what would be the effect of the virus?
“There was a flight to safety,” Powell said. “Investors wanted to be in very short-term instruments and they wanted them to be in major currencies … They didn’t even want to buy longer-term Treasuries because those can move around in value.
“So it was an extraordinary moment. And we obviously had to do something, and we did. We put our tools to work to really support market function, to get markets back to where they would just work. And they did. It took us quite a while, but it worked.”
The Federal Reserve is full of highly capable people who have seen what happened in the last serious financial crisis, Powell said.
“So we got together and we thought about things to do. And we just did that around the clock for a period of about four weeks — of just putting old programs back into play, inventing new programs, intervening in various markets, just to assure that the markets are functioning.
“We’re not trying to move markets to a particular level. We just want them to work. We want, you know, people to be buying and selling. And so, you know, it felt like we really needed to act. And we did.”
Covid-19 has devastated the U.S. economy almost overnight, prompting unprecedented levels of federal spending. Over the past two months, $2.4 trillion in spending has been approved.
Some worry that the response still might not be enough. More than 36 million Americans have applied for unemployment insurance since early March. That means almost 25 percent of U.S. workers who had jobs in February have been laid off, furloughed or fired.
By “act,” Fed Chairman Powell was talking about quantitative easing, QE — printing money.
Here’s an explanation on QE from BBC: “Governments and central banks look for ‘just enough’ growth in an economy — not too much that could lead to inflation getting out of control, but not so little that there is stagnation. Their aim is the so-called ‘Goldilocks economy’ — not too hot, but not too cold.
“One of the main tools they have to control growth is raising or lowering interest rates. Lower interest rates encourage people or companies to spend money, rather than save.
“But when interest rates are at almost zero, central banks need to adopt different tactics — such as pumping money directly into the financial system.
This process is known as quantitative easing, or QE.”
In the early days of the covid-19 crisis, the Fed lowered interest rates essentially to zero. The U.S. president wanted to lower them further into negative territory, but the Fed declined. “We used other tools instead,” Powell said. “And those tools involved forward guidance about the federal funds rate and also lots of asset purchases or quantitative easing.”
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There are many pros and cons for quantitative easing. On the one hand, it supports a stagnating economy. On the other, it risks currency devaluation and the creation of bubbles. Overall, the policy can boost economic activity during a time of uncertainty.
Here’s an excerpt from Powell’s interview with 60 Minutes correspondent Scott Pelley, which aired on May 17.
Pelley: Fair to say you simply flooded the system with money?
Powell: Yes. We did. That’s another way to think about it. We did.
Pelley: Where does it come from? Do you just print it?
Powell: We print it digitally. So as a central bank, we have the ability to create money digitally. And we do that by buying Treasury Bills or bonds for other government-guaranteed securities. And that actually increases the money supply. We also print actual currency and we distribute that through the Federal Reserve banks.
Powell did not address inflation in this interview — one of the worries with QE. However, he has repeatedly said now is not the time to worry about inflation, Roll Call reported.