Question

Describe monetary policy and its influence on financial institutions and markets. Your answer should focus on recent Federal Reserve activity (especially as associated with the COVID-19).

Answer 1

The Federal Reserve has taken unprecedented actions to mitigate the effects of the COVID-19 pandemic on U.S. households and businesses. These measures include cutting the Fed’s policy rate to the zero lower bound, purchasing Treasury and mortgage-backed securities (MBS) to promote market functioning, and establishing several liquidity and credit facilities.

December 31, 2019, the World Health Organization (WHO) was informed of an outbreak of a pneumonia of unknown cause in Wuhan, China. The outbreak was later attributed to a novel coronavirus (COVID-19 is an acronym for the disease caused by this virus). Cases increased in China and then began to spread internationally in January and February. A sharp increase in global confirmed cases was noted in March, with the WHO declaring COVID-19 a global pandemic on March 11.In the United States, the first case was reported on January 21, with cases rising rapidly thereafter and tallying the highest confirmed case count of any country as of March 26.

The coronavirus’s high transmissibility and rapid spread spurred public health experts to advocate for increasingly aggressive countermeasures, which governments then implemented. Social distancing rules imposed restrictions on work and movements deemed nonessential, and advisories and restrictions limited travel between countries and, sometimes, within countries.

Consequent to these actions, activities and services requiring face-to-face transactions and large congregations of people declined significantly. Firms in the transportation, retail, and services sectors were especially affected, but productivity suffered more generally as employees got sick and supply chains were disrupted. Many individuals lost their jobs, were forced to reduce spending, and faced financial hardship.

In the United States, in particular, initial claims, which reflect the number of workers filing for unemployment insurance for the first time, totaled an unprecedented 16.8 million during the three weeks ending on April 4. Alongside the loss of jobs, consumer confidence plunged and the Weekly Economic Index fell to a level not seen since the 2008 financial crisis. In the New York, New Jersey, and Connecticut area (an epicenter of the outbreak), about 40 percent of service firms and 30 percent of manufacturing firms reduced payroll staff.

As revenues plummeted and firms ran low on cash, their borrowing needs increased. Firms drew down their lines of credit from banks and attempted to borrow in short-term funding markets. Unusually high funding needs and pullbacks by key suppliers of short-term funds (such as prime money market funds) led to higher rates and stressed markets, prompting the Fed to step in, as described below. Costs for borrowing longer term in corporate bond markets also increased markedly, especially for lower-rated issuers and issuers directly affected by social distancing measures.

As coronavirus cases spread outside China, global asset prices dropped. The S&P 500 index declined steeply, triggering market-wide circuit-breakers that halted trading three times in March. By March 23, the stock market had fallen 34 percent from its February 2020 high. Investors sought the safety of U.S. government bonds, pushing yields to record lows. Measures of implied volatility rose sharply, indicating high uncertainty about the future. Typical relationships in financial markets broke down, such as those between stock prices and Treasury yields, amid heightened illiquidity in the Treasury market and forced selling by leveraged hedge funds.

The Fed’s Response
The Fed employed both conventional and unconventional policy tools to address the economic and financial disruptions caused by the pandemic. The Federal Open Market Committee (FOMC) quickly cut the target range for the federal (fed) funds rate to the zero lower bound, citing risks to economic activity from the coronavirus (see chart below). The FOMC lowered the target range by 50 basis points on March 3 and an additional 100 basis points on March 15. Both changes occurred between scheduled meetings, with the latter being the first on a weekend since the policy of announcing rate changes started in 1994. Reductions in the Fed’s policy rate tend to lower interest rates more broadly (such as for mortgage rates), spurring borrowing and spending by both consumers and businesses.

Conclusion
The economic and financial disruptions precipitated by the COVID-19 pandemic triggered an unprecedented response by the Fed. The Fed applied its usual tools to mitigate the effects, cutting its policy rates and providing liquidity to the banking system, as well as tools rarely used or newly created, including several liquidity and credit facilities. But because the COVID-19 pandemic is fundamentally a health crisis, it ultimately requires a medical resolution. Nonetheless, the Fed’s policy actions are important for alleviating the economic fallout until such a resolution is found and for facilitating the restart of the economy thereafter.

please do give thumbs up if you like my writting here

if you have any question please do comment

thank you

from Mona.....