Question

In the space provided below, discuss how each of the following might be affected by the proposed monetary and fiscal policy responses to Covid-19.

a. Inflation in the US (Use equation of exchange to augment answer):

b. Term structure of interest rates:

c. US, European, and Emerging Market equities:

d. US dollar:

Answer 1

Ans (a) In epidemic of Corona or Covid-19 US people think that price goes up that they pay for goods and services. Technically that called price inflation which is generally called by an increase in the money supply (minatory inflation). So you would think that pumping $2 TRILLION into the economy would cause massive price inflation or even Hyperinflation.

Epidemic of corona stock market would be crash stock lost 30% over of their value so people were watching there retirement evaporate, unemployment was skyrocketing so people were afraid of losing their jobs and/or their houses so people stopped spending money on anything that wasn’t an absolute necessity, thus the velocity of money fell drastically. This caused a waterfall effect as “luxury” businesses were forced to layoff people making the unemployment rate even worse and causing even more cuts in spending.

End of the year 2019 the USA stock market was $37.7 Trillion. So a loss of 30% would reduce the perceived money supply by $11.3 Trillion so $2 Trillion would be only a “drop in the bucket” but if the stimulus causes the stock market to rebound to previous levels as fear of the virus abates, we then have a $2 Trillion surplus to cause inflation. But there is more to consider than just the stock market.

Ans (b)
The Federal reserve bank announce it has slashed interest rates as part of an effort to stabilize the economy following a rocky week on the financial markets.

The Governors of the Bank Board cut interest rates to near zero, the second time that the central bank has cut interest rates in as many weeks. The Federal Reserve also launched a $700 billion quantitative easing (QE) program to help prevent a further economic downturn sparked by the spread of corona virus.

A statement said the bank will maintain its interest rates “until it is confident that the economy has weathered recent events and is on track to achieve its maximum employment and price stability goals.” The combination of interest rate cut and extensive QE will all but exhaust the Fed’s stimulus options going forward.

Stock futures for the major market indices are currently down about 5% on the evening of 12 March 2020.

Ans (c)

Now the US Financial market are the finally catching up to threat of the spreading corona virus and are now starting to reflect the real risk that the virus may tip the globa economy into the recession, typically defined as global economy into recession, typically defined as global GDP growth of the less than 2.5%.

The traditional wisdom is that the hit global growth and the risk markets from this virus will be severe but brief, and they will both come surging back after a few months.

The “model” for this are the Sars epidemic in 2003 and to a lesser extent, H1N1 swine flue in 2009.

Ans (d)

Epidemic of Corona Virus as its different stages, the dollar has been affected in different ways. Firstly, the US Dollar is the reserve currency of the world. This means that in times of economic stress investors sell out of riskier assets or perceived riskier currencies and buy into the dollar for its safe haven properties. Businesses also hoard dollars in fear of tougher times to come. This pushes the value of the US Dollar higher.

The Federal Reserve Bank promising unlimited quantitative easing and the Senate $2.2 trillion fiscal stimulus packages have served to ease fears in the market and lowered the value of the dollar. Market participants believe that there could be more stimulus to come. This could ease the value of the Dollar further.

However, it is also worth noting that the corona virus outbreak is still escalating in America. The situation is expected to worsen before it improves. Should investors become more nervous or in the case of a second wave of outbreak in China now that Wuhan, the original is coming out of lock down, then the dollar could push higher again.