The U.S. government has taken extraordinary measures to support the economy during the devastating COVID-19 crisis. The Coronavirus Aid, Relief, and Economic Security Act (CARES Act)—the $2.2 trillion economic stimulus bill—has been the largest economic stimulus package in U.S. history. In addition, the Federal Reserve has also been mitigating the economic damage from the pandemic through a variety of programs that are aimed at supporting households, businesses and municipalities. This important government effort has been complemented by the actions of large banks that have increased their lending and households’ access to safe deposits, and contributed in a number of other different ways to support households and businesses through the pandemic. In this post, we provide a brief overview of some of the key Federal Reserve programs in response to the COVID-19 crisis and highlight the important role played by large banks. Because credit flows from savers to borrowers through the banking sector and financial markets, many of the Federal Reserve’s tools and actions are intended to ensure that banks and financial markets work as smoothly as possible.
It is also important to note that the source of the current contraction did not originate within the financial system. Rather, the banking system entered the pandemic in a strong position with significant amounts of capital and liquidity that are now being deployed to support the economy. Over the past several months, we have shed light on the role that large banks are playing to support lending, support depositors and support larger companies seeking to raise funding from public markets. At the same time, the Federal Reserve has been trying to ensure that credit continues to flow through the economy, and that the financial system doesn’t exacerbate the shock to the economy.
Federal Reserve and Large Bank Actions to Support Households and Businesses During the Pandemic
On the monetary policy front, the Federal Reserve has cut its target for the federal funds rate to nearly zero. It has also provided forward guidance on the future path of its key interest rate, indicating that rates will remain low until the recovery from the economic downturn is well in hand. The Fed has also engaged in significant purchases of U.S. Treasury securities to further reduce interest rates in the economy. All of these actions have been important, but, ultimately, lower rates help households and businesses when banks increase their lending. And as we have recently profiled, large banks have done a lot to support the expansion in business lending during this pandemic. Accordingly, Federal Reserve actions to lower interest rates are complemented by the lending from large banks that has occurred during the pandemic.
The Federal Reserve has also been supporting corporations and small businesses through various programs. It has established two new facilities to support U.S. corporations. The Primary Market Corporate Credit Facility (PMCCF) and the Secondary Market Corporate Credit Facility (SMCCF) allow the Federal Reserve to lend directly to corporations by buying corporate bonds and loans. These facilities allow companies direct access to credit so that they can maintain business operations during the pandemic, as discussed by former Federal Reserve Chairs Bernanke and Yellen (2020). The evidence suggests that these programs have worked and have breathed life into corporate debt markets. It is also important to understand, however, that large banks have played a critical role in supporting this market. As we have recently profiled, Forum members have been taking a leading role in both underwriting these securities offerings and making markets in the secondary market for these securities to facilitate a liquid and well-functioning market. In this way, the actions of the Federal Reserve and large banks have been complementary in supporting the needs of businesses during the pandemic.
In addition to directly supporting companies, the Federal Reserve is also lending to hard-hit states and municipalities during this pandemic. Specifically, the Federal Reserve’s Municipal Liquidity Facility (MLF) will lend up to $500 billion to U.S. states, counties and municipalities. As of now, the state of Illinois has borrowed $1.2 billion from the program. In addition, the New York Metropolitan Transit Authority (MTA) borrowed $450 million from the facility. And again, these actions by the Federal Reserve complement work that large banks are doing as they underwrite municipal bonds for states and local governments as they deal with tax shortfalls and other economic stresses that have taken hold as a result of the pandemic.
The Federal Reserve’s response has also directly involved the banking sector. Specifically, the Federal Reserve offers low-interest loans to primary dealers—those securities dealers authorized to trade with the Federal Reserve to implement monetary policy actions—through the Primary Dealer Credit Facility (PDCF). The goal of this program is to keep credit markets functioning at a time of stress. The Federal Reserve has also been encouraging banks to lend by: (i) lowering the rate that it charges banks for loans from its discount window, and (ii) temporarily changing regulatory requirements. In particular, the Federal Reserve is encouraging banks to use their regulatory capital and liquidity buffers so they can maintain and increase lending during the downturn. And the available evidence shows that these modest, temporary adjustments are working. Specifically, during the second quarter of 2020, Financial Services Forum members increased their lending to businesses by roughly $97 billion compared to the last quarter of 2019.
To reduce the long-term damage from the current economic crisis, credit should remain available to healthy borrowers impacted by the coronavirus shutdown. In the U.S., credit flows through the banking sector and capital markets. The Federal Reserve is operating a number of facilities to help ensure that credit continues to flow to the economy. And large banks are playing a critical role in transmitting the relief offered by these programs to the broader economy. Large banks entered this pandemic with significant amounts of capital and liquidity that are being put to work to support businesses, households and workers. In particular, the Federal Reserve’s programs are being supported through various activities of large banks such as direct lending, securities underwriting and market making. Ultimately, both the Federal Reserve and large banks are complementing the efforts of each other to support the entire economy as we manage through this unprecedented pandemic.