Central banks SOS
Faced with the spread of the coronavirus from China, one may be tempted to call for the doctor. Investors are certainly calling for that doctor of financial markets: the central banks! Modern-day oracles, sorcerers, shamans… their power is thought to be infinite. In 2019, they managed to revive the markets even when profits were falling. Could they not also help to fight a virus? Or rather, its consequences: the economic gloom caused by production and consumption blockages in affected areas.
The market should be happy. They have begun to take action – serious action. The Federal Reserve cut its key interest rates by 50 basis points at a surprise meeting on 3 March. The People’s Bank of China has lowered several of its own interest rates to boost private lending. Nothing has happened yet in the Eurozone but a 10 bp cut is expected soon, even though the benchmark rate is already negative!
This action is supporting financial conditions. But for an SME struggling because its clients or employees are in quarantine or its deliveries are suspended, what difference will it make?
One might think that the only beneficiaries will be speculators and large firms. In reality, though, cutting interest rates allows governments to borrow more cheaply, providing budgetary or fiscal stimulus. China has reduced or deferred taxes for the worst-hit companies. The Hong Kong government will pay a “virus bonus” of $1,300 to each adult resident. In Italy, despite colossal debt, exceptional spending measures may be taken in response to the crisis. Even Germany is preparing to break the budget deficit taboo (encouraged by negative interest rates that make the country money whenever it borrows!).
Central banks’ generosity is therefore reaching business owners. Indirectly, it even extends to hospitals fighting the virus, as they also partly depend on governments’ budget capacity. Of course, it all comes at a cost: low or even negative interest rates. Savers would thus appear to be the biggest losers.
But if the economy keeps working because interest rates are low, will savers not be winners too? Surely they would be ruined if the economy were to seize up completely. From this point of view, low interest rates seem a price worth paying for the insurance that central banks provide against economic collapse. Doesn’t any insurance have a fair cost?
There is wisdom in having central banks tackle the virus. They may not be able to heal us, but they will help companies, consumers and governments through the crisis more quickly – or at least less painfully.
So if you have a fever… call Dr Lagarde in Frankfurt!
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