A glossary of the Federal Reserve’s full arsenal of ‘bazookas’
The novel coronavirus continues to grip businesses on Main Streets across the country, forcing America’s employers to significantly pare back on their operations or shut down entirely.
While Congress has passed a $2 trillion stimulus package to help businesses and workers, the Federal Reserve has committed to using its tools to “support the flow of credit to households and businesses and thereby promote its maximum employment and price stability goals.”
Since the beginning of March, the Fed has swiftly slashed rates to zero, launched an aggressive quantitative easing program, and unleashed an alphabet soup of liquidity facilities to support the flow of credit in several markets. The central bank hopes its measures will ease credit conditions and keep businesses alive through the virus-induced disruptions.
In total, Fed watchers have referred to the central bank’s measures as “bazookas,” even “going nuclear.”
The Fed is notably getting creative with its tools, dispelling any concern that the central bank was beholden to its 2008 playbook. For the first time, the Fed is tackling financing pressures in the municipal debt market (through the MMLF and CPFF) and the corporate debt market (through the PMCCF, SMCCF, CPFF).
Here’s a full breakdown of all the tools (as of March 24) announced by the Fed as it battles the economic impact of the coronavirus:
Technical details: Interest rates are the primary tool for monetary policy. The Fed broadly steers rates to support lending when the economy is in need (by lowering rates) and pulls back on lending when the economy may be running too hot (by raising rates).
The Fed began raising rates in 2015 as policymakers feared inflationary pressures; low rates are generally tied to increased inflation — which increases prices for consumers. However, the Fed began cutting interest rates in 2019 amid the trade war. Coronavirus concerns pushed the Fed to cut rates by 50 basis points on March 3 and then slash its interest rate target to between zero and 0.25% on March 15. The Fed has not expressed interest in dipping into negative interest rates, which make it costlier to hold onto money than to lend it out.
How it impacts Main Street: The Fed’s interest rate target concerns overnight bank lending, so interest rates for the average household and business will still be above zero. But for businesses, lower interest rates mean cheaper borrowing costs to invest back into the business and pay workers. For individual households, lower interest rates translate to lower return on bank deposits but generally cheaper rates to finance or refinance auto loans or mortgages.
Technical details: The Fed said it will purchase at least $500 billion of U.S. Treasuries and $200 billion of agency mortgage-backed securities “over coming months.” On March 23, the Fed announced that it was suspending those limits and would buy assets “in the amounts needed” to support the economy, which would also now include agency commercial mortgage-backed securities. Through QE, the Fed is directly intervening as its own counterparty in the Treasury and agency MBS markets to absorb securities onto its balance sheet.
How it impacts Main Street: When the Fed last launched QE in the financial crisis, the central bank explicitly bought longer-term Treasuries to depress long-term yields. Since yields on longer-term government debt serve as a benchmark for longer-term interest rates, QE purchases targeting 30-year bonds (as the current program does) should in theory keep 30-year mortgage rates from rising too much.
Repurchase agreements (Repo)
Date announced: September 2019
Technical details: As the plumbing of the financial system, the repo market provides financing for banks and broker-dealers at the center of the economy, allowing the levered institutions to cover positions on their balance sheet by lending sums of cash to one another.
Since last September, the New York Fed has offered repurchase agreements to alleviate pressures in the market for interbank short-term loans, but has since increased the scale of the repos available in the wake of the novel coronavirus. Even though the Fed is offering over $5 trillion in total repo agreements (as short as overnight and as long as three months), the uptake has not been anywhere close to that eye-popping figure.
How it impacts Main Street: Stabilizing repo markets also supports money market funds that many Americans are invested in, since the funds often hold some proportion of their assets in daily liquid assets like overnight repos. The NY Fed’s repo operations are also designed to ensure that banks can find short-term financing and therefore feel comfortable continuing to provide credit to customers and businesses.
U.S. dollar swap lines
Date announced: March 15, March 19, March 20
Technical details: Companies around the world disrupted by the novel coronavirus are loading up on U.S. dollars to cover currency hedge positions. As a result, the Fed announced U.S. dollar swap lines with five other major central banks (including the European Central Bank and Bank of Japan) to ensure the availability of the world’s reserve currency.
On March 19, the Fed expanded its U.S. dollar swap lines with nine other central banks and on March 20 the Fed increased the frequency of its previously-announced swaps with the five major central banks.
How it impacts Main Street: The U.S. dollar has strengthened against many global currencies, but with international travel almost all but cut off, most Americans will not see any direct effects of the Fed’s efforts to provide liquidity to foreign exchange markets. But broadly, preventing the world from running out of U.S. dollars ensures that an already exposed U.S. economy isn’t harmed further by dollar shortage-induced financial collapses in other countries.
Tapping into capital and liquidity buffers
Date announced: March 15, March 23
Technical details: After the 2008 financial crisis, Congress passed the Dodd-Frank Act and required banking regulators to increase the amount of capital and liquidity held at U.S. banks in case another crisis struck. To withstand fluctuations, most banks hold capital and liquidity buffers well above their statutory requirements, but the Fed on March 15 encouraged banks to tap into those buffers to lend out into the economy.
The Fed also lowered reserve requirements to zero and on March 23 tweaked a bank capital regulation to more loosely allow banks to lend out retained income.
How it impacts Main Street: Bank capital and liquidity regulations are a tightrope; requirements that are too low could lead to fragile balance sheets but requirements that are too high could prevent a bank from lending into an economy in desperate need of more activity.
The Fed hopes that its post-crisis regulations have already beefed up the safety and soundness of the banks, and that it can allow for some slight regulatory easing to encourage them to use their capital to now support businesses and households.
Discount window
Date announced: March 15
Technical details: The Fed can directly offer short-term loans to banks and lowered the interest rate on discount window loans to 0.25% as of March 16. The Fed also joined other major banking regulators in explicitly encouraging banks to take advantage of the loans, which the eight largest U.S. banks did that same day.
How it impacts Main Street: Historically, banks have been reluctant to access the discount window because of the public perception of needing a loan from the Fed, also known as the “lender of last resort.” In the last crisis, banks accessed the discount window but feared that depositors were going to trigger a run on the bank because of the “stigma” associated with the window.
The Fed’s actions, and the fact that the banks have already accessed the discount window, are designed to show depositors and market participants that using the discount window is not necessarily a sign of bank insolvency or severe stress.
Decoding the Fed’s many facilities opened over the last few weeks. Some of the liquidity measures are new (PMCCF, SMCCF), some are old (TALF), and some are old with new tricks (MMLF). Credit: David Foster / Yahoo Finance
Commercial Paper Funding Facility (CPFF)*
Date announced: March 17, March 23 (effective through March 17, 2021)
Technical details: The Fed announced that it would directly finance eligible commercial paper, a common form of short-term corporate debt. Although the Fed does not have the ability to add commercial paper directly to its balance sheet, the central bank established a special purpose vehicle (SPV) with $10 billion of equity investment from the U.S. Treasury to buy high-rated, three-month commercial paper.
On March 23, the Fed expanded the CPFF to include some short-term municipal bonds as well.
How it impacts Main Street: Businesses forced to shut down or significantly scale back their operations are scrambling to find financing as the U.S. tries to flatten the curve on the novel coronavirus. But with counterparties less willing to buy corporate debt, the Fed is stepping in to directly take on risk by snatching up commercial paper. In theory, the CPFF should allow businesses to keep employees on payroll and ensure that the business is still there for workers to return to once the economy starts up again.
Primary Dealer Credit Facility (PDCF)*
Date announced: March 17 (effective through at least September 2020)
Technical details: The PDCF offers short-term (up to 90-day) loans to primary dealers, or firms that serve as intermediaries between the government and the market. To get access to the loans, the dealers can offer up a wide variety of different types of collateral (investment grade corporate debt, commercial paper, municipal debt, mortgage-backed securities, asset-backed securities, and even some stocks). Exchange-traded funds and mutual funds are not eligible collateral under the PDCF.
How it impacts Main Street: The PDCF allows those dealers at the heart of the financial system to temporarily liquidate some assets that they may be unable to sell in the open market. Without assets trapped on the balance sheet, those primary dealers would then have the liquidity to lend to businesses disrupted by the virus.
Money Market Mutual Fund Liquidity Facility (MMLF)*
Date announced: March 18, March 20 (effective through at least September 2020)
Technical details: Much like the PDCF, the MMLF offers short-term loans, but to all U.S. banks. Under the program, banks offer up collateral in the form of U.S. Treasuries, asset-backed commercial paper, and some unsecured commercial paper. The MMLF is similar to the crisis-era Asset-Backed Commercial Paper Money Market Mutual Fund Liquidity Facility (AMLF), but the Fed on March 20 announced that it would expand the MMLF to take on short-term (with maturities of a year or less) municipal debt as eligible collateral as well.
The Treasury will provide $10 billion of credit protection.
How it impacts Main Street: The expansion of the MMLF to municipal debt is a new move. With businesses closed, local municipalities and states may be unable to collect tax revenue for a while. As a result, municipal debt markets have been drying up as bond buyers worry about the economic spillover of the virus onto the credit health of American towns, cities, and states. The Fed was able to retrofit the MMLF to the muni debt market in an attempt to maintain the flow of financing for localities and their public utilities.
Primary Market Corporate Credit Facility (PMCCF)*
Date announced: March 23 (effective through at least September 2020)
Technical details: The PMCCF will purchase investment-grade corporate bonds (with maturities of four years or less) directly from eligible issuers and offer them a loan. Like the CPFF, the facility will have the support of $10 billion from the U.S. Treasury and hold the bonds in an SPV. Companies accessing the PMCCF would pay the Fed interest on the loan but would be allowed to hold off on interest payments for up to six months, during which it would not be allowed to pay dividends or buyback shares.
The program is new and was not deployed during the 2008 crisis.
How it impacts Main Street: Companies with weaker credit ratings cannot access the CPFF, but strains in the investment-grade market have raised concerns that those with a higher-risk of default may be exposed. The PMCCF hopes to backstop the market and allow those companies to find financing and keep their employees on payroll while the business stoppages continue.
Secondary Market Corporate Credit Facility (SMCCF)*
Date announced: March 23 (effective through at least September 2020)
Technical details: As the name implies, the SMCCF will provide a backstop in the secondary market for the investment-grade corporate debt targeted by the PMCCF. The facility would include a separate SPV with another $10 billion from the U.S. Treasury. The SMCCF can also take on some U.S.-listed ETFs with “broad exposure” to the market for U.S. investment-grade corporate bonds.
The SMCCF is also a new tool.
How it impacts Main Street: The SMCCF adds extra juice to its efforts to provide liquidity to the investment-grade corporate debt markets by targeting the secondary market. Just as the PMCCF does, the goal is to maintain access to financing for companies hoping to survive the business disruptions from the novel coronavirus, and keep employees paid in the process.
Term Asset-Backed Securities Loan Facility (TALF)*
Date announced: March 23 (effective through at least September 2020)
Technical details: The TALF was deployed in the financial crisis and is again being deployed to provide loans to U.S. companies in exchange for collateral in the form of asset-backed securities. The facility would offer the loans to U.S. companies via primary dealers, and would be supported through an SPV with $10 billion of equity investment from the U.S. Treasury.
How it impacts Main Street: The facility would not directly buy consumer loans since the Fed does not have the authority to do so. But the asset-backed collateral supported by the program would include securities such as student loans, car loans, credit card receivables, and small business loans as underlying assets. By offering liquidity to the market for securitized loans, the TALF program should support the continued underwriting of those categories of consumer loans.
Main Street Business Lending Program
Date announced: March 23
Technical details: The Fed announced that it would soon open an unprecedented new facility to directly “support lending to eligible small-and-medium sized businesses.” No additional details were provided on timing and structure, and there are still questions about how the Fed would navigate the legal obstacles around its authority to set up such a program.
How it impacts Main Street: The Fed’s facilities to-date are largely only accessible to banks, broker-dealers, and large corporations. But the central bank has acknowledged that Main Street businesses — the local coffee shop or the neighborhood grocery store — are also in dire need of liquidity. The Fed says its program would “complement” the business loans currently offered by the Small Business Administration, although the Fed may be waiting on action from Congress before launching its own program.
(* denotes facilities opened by the Fed with approval from the U.S. Treasury under Section 13(3) of the Federal Reserve Act)
Brian Cheung is a reporter covering the Fed, economics, and banking for Yahoo Finance. You can follow him on Twitter @bcheungz.
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