Federal Reserve cuts key interest rate to near zero to help economy withstand pandemic
WASHINGTON — The Federal Reserve took emergency action Sunday to help the economy withstand the coronavirus by slashing its benchmark interest rate to near zero and saying it would buy $700 billion in Treasury and mortgage bonds.
The Fed’s surprise announcement signaled its concern that the viral outbreak will depress economic growth in coming months and that it is prepared to do whatever it can counter the risks. It cut its key rate by a full percentage point — to a range between zero and 0.25% — and said it would keep it there until it feels confident that the economy can survive a sudden near-shutdown of economic activity in the United States.
The central bank will buy $500 billion of Treasury securities and $200 billion of mortgage-backed securities. This amounts to an effort to smooth over market disruptions that have made it hard for banks and large investors to sell Treasuries as well as to keep longer-term rates borrowing rates down. The disruptions in the Treasury market sent the yield on the 10-year Treasury rising last week, an unusual move that threatens to swell borrowing costs for mortgages and credit cards.
On Sunday evening, U.S. stock futures began falling after the Fed’s announcement. Futures for the S&P 500 index dropped 4%, while futures for the Dow industrials fell by 3.7%.
All told, the Fed’s massive response is intended to keep financial markets functioning and lending flowing to businesses and consumers. Otherwise, as revenue dries up for countless small businesses that have suddenly lost customers, these employers could be forced to lay off workers or even seek bankruptcy protection in some cases.
“This is a break-the-glass moment“ for the Fed, said Mark Zandi, chief economist at Moody’s Analytics. “They are throwing everything they’ve got at this. My sense is they must be nervous about the credit system not functioning properly. They are trying to shore up confidence.”
By aggressively slashing its benchmark short-term rate and pumping hundreds of billions of dollars into the financial system, the Fed’s moves Sunday recalled the emergency action it took at the height of the financial crisis. Starting in 2008, the Fed cut its key rate to near zero and kept it there for seven years. The central bank has now returned that rate -- which influences many consumer and business loans -- to its record-low level.
As more businesses across the country see their revenue dwindle as consumers stay home, many of them will seek short-term loans to maintain their payrolls. The Fed said it has dropped its normal requirement that banks hold cash equal to 10% of its customers’ deposits, thereby allowing banks to lend that money instead. It also said banks can use additional cash buffers that were imposed after the 2008 financial crisis for lending.
“The Federal Reserve,“ its statement Sunday said, “is prepared to use its full range of tools to support the flow of credit to households and businesses and thereby promote its maximum employment and price stability goals.”
“It confirms that the Fed sees the economy going down ... very sharply” toward recession, said Adam Posen, president of the Peterson Institute for International Economics, said.
The Fed said it has also cut interest rates on dollar loans in a joint action with five central banks overseas. This move is intended to ensure that foreign banks continue to have access to dollars that they lend to overseas companies.