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The US makes an unprecedented decision, resulting in a race to the bottom

The US makes an unprecedented decision, resulting in a race to the bottom

Thursday 05, 03 2020
The Fed has just made an unprecedented decision to sharply reduce the interest rates before a policy meeting.

This is a surprise action, showing the grim future of the US economy.

The decision to reverse

The Fed has just decided to reduce the fundamental interest rates by 50 percentage points from the 1.5-1.75% level to the 1%-1.25% level as emergency support for the US economy facing the risk of a growth reduction due to the global Covid-19 outbreak.

According to the Fed, the background factors of the US economy are still stable. However, the epidemic is increasingly threatening the economic activities, and the risks may lead to instability in people’s work. Thus, this decision is against the Fed’s declaration in its latest meeting’s report.

The reduction level of 50 percentage points is also the highest one since the financial crisis in 2008. What worth mentioning here is that the Fed could not wait until the upcoming policy meeting on 17th-18th March and had to reduce the interest immediately to save the economy.

In its latest meeting report, the Fed still said that its policies are still suitable for the economy’s developments. At that moment, the market was working effectively and the inflation rates had dropped back to the goal of 2%, and the stock exchange of the US continuously created new historical records with several major enterprises like Apple, Dow, and McDonald's, etc. all publishing their positive business results.

In 2019, the Fed had carried out 3 interest rate reductions (after 1 decade of the one-sided increasing interest rates after the 2008 crisis), with 25 basis points reduced each time, to the level of 1.5-1.75% per year. However, at the end of 2019 and the early of 2020, the Fed has been sending signals announcing that they may not cut the interest rates any further.

The US economy is considered to be minorly affected by the epidemic outbreaking in Asia. This may be the reason which gives the Fed for time to consider. After 1 month, the whole situation has been reversed. The US is no longer immune to the Covid-19 epidemic and the US stock has just been through the worst week in history with the reduction sessions of more than 1,000 points and the disappearing capitalization of thousands of billion USD.

The US makes an unprecedented decision, resulting in a race to the bottom

This significant interest rate reduction also occurs in the context of the Fed being continuously criticized by President Donald Trump for not reducing the interest rates for policy competition with other central banks globally. The highest reduction ever since the 2008 financial crisis has still not satisfied Trump.

He said the Fed “needs to loosen further, and most importantly, to the equal level comparing to those of other countries/competitors”. Many countries are applying the interest rate of nearly 0%, or even the negative interest rate. This new action of the Fed is implemented at the same time when G7 comes to an agreement to save the economy, though there is still a lack of specific solutions.

The race to the bottom and the threatening risks

An unusual development has recently occurred in the US financial market. The Stock Exchange of this country has dropped sharply after the news of the Fed significantly reducing the interest rates. In the previous session on 2nd March, the US stock had the highest point increase in the last 10 years immediately after the Trump administration considered tax reduction and the Fed planned to reduce the interest rates to assist the economy in the context of the Covid-19 epidemic.

The Dow Jones Index received a record increase of nearly 1,300 points, equivalent to an increase of 5.1% to 26.7 thousand points. Other indexes also increased notably. However, in last night’s session, Dow Jones reversed, dropping by more than 700 points despite the interest rates reduction of the Fed. The 10-year US bond yield set a new bottom: for the first time in history, it fell below 1% as investors rushed to find a safe place. Gold skyrocketed by nearly 3% to more than 1,645 USD/once in one session.

According to CNBC, some reviews show that the strong and emergency reduction decision before the meeting demonstrates the Fed’s serious worries regarding the US economy potentials. Moreover, several investors were also disappointed with the declaration of the Fed’s Chairman Jerome Powell saying that the Fed is not ready to use any necessary additional tools to stimulate the economy besides interest rate cut. The reduced interest rates have also made several US banks’ stocks reduce sharply.

The stock of the Bank of America has dropped by more than 5%, and that of JPMorgan Chase and Citigroup has dropped by 3.8%. Investors currently are still worrying about the economic depression as countries are facing the serious growth reduction in the context of the two world’s columns being threatened: the supply chain in China has been postponed for weeks, while the global financial system stationed in the US is also being threatened.

The wave of an interest rate cut has never been more apparent. On 3rd March, the Australia Reserve Bank – the Central Bank of Australia decided to cut the fundamental interest rate by 25 percentage points to the record low level of 0.5%, in the context of the Covid-19 increasingly and directly affecting the global and Australia’s economy. Before that, the Australian stock exchange has witnessed significant decline sessions, and around 130 billion USD of the capitalization of this market has disappeared. The Australian Dollar has reached the lowest level in the last decade. Most of the major powers like the Fed, the ECB, the Central Bank of Britain, and the Central Bank of Japan, etc.

Have all cut or proposed suggestions regarding the adjustment in the monetary policies in the upcoming meetings. The ECB is likely to cut its interest next week. The German Government has also announced that it is ready to implement the fiscal stimulating package of this country if the situation continues to worsen. Meanwhile, the Central Bank of Japan will also have “necessary measures to stabilize the financial market. Before that, China has also cut interest rates and pumped a large amount of money into the market.

​What worrying here is that most nations, including G7, have no solutions except for interest rate cut and pumping money into the economy. A race to the bottom continues, despite the interest rates being at the extremely low levels of nearly 0% for some countries and at the negative levels for others. After the financial crisis in 2008 and the Covid-19 epidemic, the global policy buffer is shrinking.

Source: https://vietnamnet.vn

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Economy News

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