G7 countries will undertake “concerted action” to offset the negative economic impact of COVID-19, according to France’s Finance Minister Bruno Le Maire.
Mr. Le Maire told French television that he had spoken to US Treasury Secretary Steve Mnuchin and there would be a conference call of G7 Finance Ministers to discuss a “coordinated response”.
Federal Reserve Chair Jerome Powell has also hinted at a rate cut at the upcoming 17-18 March Fed policy meeting, saying that the Fed would “act as appropriate” to support the economy.
In our 25 February Insight here, we expected markets to bounce on policy stimulus hopes. This is it. This is what markets have been waiting for.
While rate cuts and liquidity injections will make markets feel better for a while at least, what is it likely to do for the economy?
The most important thing that more and cheaper liquidity will do is to hopefully prevent companies from running into financial trouble on a high-stress combination of a decline in cashflow, a liquidity crunch and higher borrowing costs. That is, it will hopefully prevent a credit crunch and defaults. This is critical if we are to avoid a market event turning into a credit event.
Another policy action that could help is direct government spending – for e.g. through public works/infrastructure development – to offset a fall-off in household spending.
However, lower interest rates or even so-called “helicopter money” being rained on households could have limited effectiveness. There are two problems – one supply, another demand. Disrupted supply chains and product availability is a much smaller problem. The bigger problem is getting people out and about, spending.
You can have all the beautiful cars and the latest computers in showrooms and electronics stores. Yet, that won’t help the economy if you can’t get people into the showrooms and stores. And what about the discretionary spending – the “little luxuries” of a weekend dinner out or a big breakfast at a café? That kind of spending lost is spending lost forever. You can’t make up for, say, 25 lost weekend dinners out in the second half of the year.
As COVID-19 continues, more companies will be asking staff to take unpaid leave. That will further damage demand and corporate earnings.
Bottomline: Markets will rejoice because this will at least reduce the risks of credit events. But beyond that, markets will return their attentions to corporate earnings.