Question

During its last unscheduled meeting on March 15, the Fed's Federal Open Market Committee announced it would lower its benchmark interest rate (the federal funds rate) to near zero percent.

1. Why are the Fed's announcements such a big deal?

2. Why would the Fed act to lower interest rates to near zero?

3. What additional measures did Fed announce?

4. How effective will these measures be in mitigating the effects of coronavirus on our economy?

Answer 1

1)The Fed's announcements come amid the coronavirus outbreak and oil price shock (a consequence of the COVID-19 pandemic). These incidents have led to massive sell-offs in the stock market and which has sparked concerns of unemployment rate soaring to levels seen in decades and the US economy drifting towards a recession. Interest rates in the developed world were already at low levels and for a very long time the central bank's role was to stabilize the economy by setting short- term interest rates. By pushing the interest rates to near-zero levels, which were seen during the Great Recession of 2008 have rung bells around the world on the implications of the pandemic on the US economy and the rest of the world.

2)The interests rates in the US were already at a low level and to inject liquidity into the system amidst concerns of high leverage levels of the US companies (the oil price shock setting oil prices to nearly 18-year low levels have set the ball rolling for the shale oil industry in the US), it was warranted to have shifted the interest rates to near-zero levels as setting it a lower level than this i.e., into the negative trajectory would have had various repercussions for the US economy given the mixed success of the experiment in the Europe and Japan.

3) Apart from lowering of the interest rates, the Fed also announced certain additional aspects. The Fed announced the re-commencement of its crisis era program of bond purchases termed as "quantitative-easing" under which the central bank buys hundreds of billions of dollars to push the market rates down further and also allow the markets to function more freely.

The Fed has also started to give out more-generous loans to the commercial banks around the country so the banks in turn can offer loans to small businesses and families in need during times of pandemics and emergencies.

4) Lowering of interest rates to such a great extent has never happened in the United States before. Negative interest rates would work by effectively and efficiently by paying the borrowers to take the loans and requiring people and businesses that deposit money in return for a fee rather than earn interest on the lent amount. Lowering of interest rates by Fed is one of the biggest tools deployed by tool during times of such Worldwide Health Emergency. Many of the leading economists have already predicted that the USA will go into recession as a result of this outbreak, that ends the longest streak of economic growth in US history.