The Fed's assets jumped by $1 trillion in the months after the 2008 the financial crisis. This year, it’s already spent more than twice that much.
By Nick Timiraos and Jon Hilsenrath April 27, 2020 11:06 am ET The Federal Reserve is redefining central banking.
It would make its role in the economy far greater than during the Great Depression or World War II, according to Wall Street Journal calculations. The portfolio had reached $6.57 trillion by April 22. “This should be considered a very freakish Black Swan event, not anything that would be revisited under ordinary circumstances,” says Sen. Pat Toomey , who criticized the Fed after the last crisis for enabling large federal budget deficits. Last month, he helped advance the $2.2 trillion economic-rescue legislation in Congress that puts the Fed at the center of the government’s economic-rescue efforts.
Mr. Powell defines the government’s task from a different moral perspective. “People are undertaking these sacrifices for the common good,” he said in his speech. “We need to make them whole to the extent we have the ability.” The Fed will lend as much as 10 times the amount Congress appropriated, with the Treasury taking the first losses on loans that go bad. The Treasury has so far committed around 40% of those funds to some of nine different programs, leaving room to expand them or deploy others.
“The Fed is not naturally suited to do this,” says Douglas Holtz-Eakin, a Republican former director of the Congressional Budget Office, “but the Treasury is using the Fed as its arm because the Fed is better at setting up these facilities and getting the money out.” Bigger federal borrowing needs will make it costly for the Treasury should interest rates eventually rise. “If the economy recovers and inflation is a problem, that will be the test,” says former Fed Chairwoman Janet Yellen. That isn’t a problem now. If it ever is, she says, “I think the Fed is going to win out on that.”
In a letter to Mr. Powell this month, Rep. Maxine Waters , chairwoman of the House Financial Services Committee, said the program would have excluded 35 cities most heavily populated by African-Americans. “This approach risks exacerbating racial disparities in the federal government’s response,” she wrote.
Share Your Thoughts Is the Fed doing the right thing in redefining central banking to counter the pandemic’s economic impact? Join the conversation below. Many private-equity funds added debt to their portfolio companies before the crisis in the junk-bond and CLO markets. By supporting junk bonds and CLOs, the Fed could be helping private-equity funds that made their portfolio companies vulnerable before the crisis with heavy debt burdens.
Fed officials have concluded they need to offer broad support to corporate-debt markets to prevent credit from drying up and producing even more wide-scale bankruptcy and job loss. “I’d be willing to take more credit risk than I would have before this situation,” says Cleveland Fed President Loretta Mester, “because this is a huge, unprecedented, negative shock.”
The Fed doesn’t want to lend to businesses that aren’t viable, says Ms. Mester, the Cleveland Fed president. It also doesn’t want to let viable ones fail because cash flow is temporarily cut off. Distinguishing between the two is the challenge—especially now. With Americans unable or unwilling to engage in commerce, nothing more than the passage of time may be needed to turn illiquidity into insolvency.
Unlike in the 2008 bailouts, where the Fed and Treasury turned profits on bank rescues, Mr. Hubbard says, officials shouldn’t be concerned about recouping the Treasury’s investment. “If the Fed doesn’t lose money,” he says, “that says they weren’t lending to borrowers who needed the money.”
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