Jan 29, 2020 - Economy

The Fed confronts the coronavirus risk

Illustration of virus cell with question marks around it

Illustration: Aïda Amer/Axios

What was going to be a very simple and straightforward policy meeting for the Fed this afternoon has been significantly complicated by the outbreak of the Wuhan coronavirus, fresh geopolitical tensions and an inverted yield curve.

The big picture: While no policy change is expected, all eyes will be on Chairman Jerome Powell's assessment of the economic environment and whether the U.S. central bank is leaning toward adding more stimulus or taking away the punch bowl.

Why it matters: The Fed has flooded the market with cash since September with its ongoing repo market injections and bond-buying program, helping boost market confidence and asset prices. A shift in tone away from ample accommodation could send the market on a downward spiral.

  • "How does Jay Powell walk the line between acknowledging there’s a new risk to the global economy but not overstating how worried they are?" Vincent Reinhart, chief economist at Mellon who spent 24 years at the Fed, tells Axios.
  • "To the extent that he’s on one side or the other tells you how willing they would be to ease policy," by adding more stimulus or cutting interest rates, he adds.

What's happening: Investors bought the dip on Tuesday following Monday's market selloff, as many asset managers remain bullish, betting that the coronavirus outbreak turns out to be a blip on the radar for U.S. and global growth.

  • To wit, Clifton Hill, global macro portfolio manager at Acadian Asset Management, says the backing of the Fed and other central banks has pushed many asset managers into risk assets like stocks, "because it’s just too punitive" to miss out on the rally.
  • "The market is definitely leaning long, no one wants to miss out, they feel like the central banks are being accommodative, [but] what happens if we get a sustained risk-off environment, and how much will markets really suffer with everyone leaning in a similar direction?"

Watch this space: The Fed is unlikely to create a permanent or longstanding cash facility for the repo market, Reinhart says, despite the expectation and repeated calls for one from repo market traders and primary dealers who do business directly with the central bank.

  • That could lead to a repeat of September's rate spikes as the Fed draws down its cash injections.

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