Political divisions put Fed’s pandemic emergency measures in doubt

The future of the Federal Reserve’s emergency lending facilities is in doubt as a result of divisions in Washington, sparking concern among investors that their lapse could rekindle financial market volatility just as the economic recovery is losing steam.

Since March the US central bank has rolled out 13 credit facilities to ensure that businesses and municipalities of many sizes have easy and cheap access to credit throughout the pandemic downturn. 

The programmes allow the Fed to pump trillions of dollars into the financial markets through the purchase of corporate debt, including some risky junk bonds, and debt issued by state and local governments; loans to medium-sized businesses; and backstops for the short-term funding markets.

They were created under powers that allow the central bank to make asset purchases in “unusual and exigent circumstances”, and their potential size was dramatically increased thanks to money from the US Treasury to cover losses.

Twelve of the 13 facilities are set to expire on December 31, however, posing a dilemma for policymakers in the final weeks of the year. While the Fed board, including chairman Jay Powell, appears to be leaning towards extending them, as it did ahead of the previous deadline in September, the Treasury department — which needs to sign off on the extension — has not yet decided whether to go along. 

Mr Powell this week conveyed his preference to keep the facilities running in the near term, even though they are not currently being widely used, reflecting his assessment that the next few months may be “very challenging” for the US economy.

“When the right time comes, and I don’t think that time is yet or very soon, we will put those tools away,” he said at a virtual Bay Area Council event on Tuesday. 

Many investors have also made the case that policymakers should tread carefully given the risks to the outlook posed by the global surge of Covid-19 cases.

“Given the fact that we are still in the jaws of the coronavirus crisis and these are effective, well-designed lending facilities, the case for leaving them in place over the next couple of months as a backstop is very strong,” said Nathan Sheets, chief economist at PGIM Fixed Income and former under-secretary for international affairs at the US Treasury.

Ed Al-Hussainy, a currencies and rates analyst at Columbia Threadneedle, added: “It is a bold gamble to take the programmes out of commission. It feels like now is not the right time to gamble.”

The Trump administration has shown some scepticism. The Treasury recently disclosed to members of the Congressional Oversight Commission, which monitors the facilities on behalf of lawmakers, that it does not support extending the programme to buy short-term debt directly from states and some local governments. 

Republican senator Patrick Toomey of Pennsylvania, a member of the oversight panel, has also called for that programme, known as the Municipal Liquidity Facility, or MLF, to be wound down.

“Economic data is coming with greater strength than many have forecast, and using this programme to do anything more than what it was intended to do — which was to provide temporary liquidity — would, in my view, be inconsistent with Congressional intent when it passed the Cares Act,” he said during a September hearing, referring to the March relief bill that provided the Fed with $454bn of equity from the Treasury.

Ian Katz, a policy analyst at Capital Alpha Partners, said: “The real question here is the politics. It’s unclear whether the outgoing White House wants to do this. They may feel like letting the Democrats figure it out.” 

The Treasury did not respond to a request for comment. 


total amount currently deployed through Fed’s emergency facilities

Markets have rebounded vigorously in the months since the Fed announced the emergency facilities and other actions to prop up the economy, which included slashing interest rates to zero and pledging to buy an unlimited quantity of US government debt. US equities have soared to new heights and financial conditions are easier by some measures than they were before the pandemic.

As a result, only a fraction of the money earmarked for these facilities has so far been deployed. According to Financial Times calculations based on Fed data published last week, just $89.6bn of the central bank’s firepower is currently deployed. That is down from a peak of $107bn in July and represents roughly 3 per cent of the minimum $2.6tn the Fed said it would make available.

In a statement released earlier this month, the five members of the Congressional Oversight Commission expressed unanimous support for the Fed to cease buying corporate bonds, given the strength of the rebound. However, not all members subscribe to Mr Toomey’s view that the MLF — which has so far lent out only $1.7bn, or 0.3 per cent of its $500bn capacity — should be terminated, given mounting pressure on state and local government budgets.

“To end this facility voluntarily right now in arguably the height of the crisis would be indefensible,” said commission member Bharat Ramamurti, a former aide to Democratic senator Elizabeth Warren of Massachusetts.

“At this point, the only reason that the Treasury department would decide not to extend these facilities is that they purposely want to undermine the ability of the incoming Biden administration to handle this crisis,” Mr Ramamurti told the FT.

Column chart of Assets, $bn showing Debate over Fed facilities emerges as usage stalls

Investors have also made the case that the $600bn Main Street Lending Programme, which involves the Fed purchasing loans made by banks to small and medium-sized businesses, should be extended. Usage remained below $5bn as of last week.

Many market participants believe that, should the Fed and Treasury allow the facilities to lapse next month, Joe Biden, the US president-elect, is likely to quickly reinstate them after he takes office in January.

Still, the intervening period could prove rocky, underscoring what Mohamed El-Erian, president of Queens’ College at the University of Cambridge, calls the “lose-lose-lose situation” that central banks have found themselves in given how deeply they have already waded into financial markets. 

“They lose if they try to exit, because they can cause financial instability and risk damage to the real economy. If they do more, they fuel excessive risk-taking. And they also lose keeping policy as is because of the divergence between the real economy and markets,” he said.

Additional reporting by Brooke Fox in New York

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