Why The Federal Reserve Cutting Interest Rates To Zero Is Not Cause For “Happiness”
The only reason the U.S. central bank would be taking this action is things have gotten unexpectedly bad, unexpectedly fast
And it needs to do it to — hopefully — hold the banking system and the economy together. So it’s kind of the exact opposite of a happy situation.
We want to keep this as brief and simple as we can, so at the risk of oversimplifying, the Fed is trying to accomplish a couple of things:
- It’s trying to force people to spend money by making it worthless for them not to. Consumers right now are hoarding cash, just like everything else. By creating a situation where there’s no benefit beyond safety to keeping money in the bank, it’ll hopefully spur spending. Mortgage rates, for instance, should drop to or near their lowest levels ever. Making it a great time to buy real estate. But are people really going to be out looking at that kind of investment right now? And even if they are, will banks give them a loan?
- It’s trying to force banks to lend money to people and businesses even though they have no clue whether they’ll be able to pay it back. Even if they’ve been good customers. We’ve talked extensively about the lack of visibility right now, and that’s completely why this part of it is the biggest battle the Fed is now fighting. The Coronavirus and response/lack of response has upended so many industries and created uncertainty for so many employers and employees. And trillions of dollars of wealth has disappeared from the economy mostly via plunging stock prices. So the Fed is reducing the risk of supplying funds to people and small businesses by offering a giant pile of cash that costs zero for banks to tap into.
The Fed also plans to buy hundreds of billions of dollars in Treasury securities to shore up the market. And let banks hang on to funds they take from the Fed for a while. That’s intended to supply longer-term support for the economy and financial system.
But remember, the Fed just cut rates by a lot a little over a week ago. And just a few days ago, opened a $1.5-trillion window for short-term loans to banks. So the surprise cut Sunday almost surely…