THERE IS A tired old saying that when America sneezes, the world catches a cold.
As clichés go, it might seem a bit on the nose in the middle of a pandemic.
Unfortunately, it also happens to be a truism, given the importance of the United States to the global economy.
That’s why investors, central bankers and economists all over the world will have been watching this week’s US general election with keen interest against the backdrop of a global economic crisis.
As if there wasn’t enough news coming out of the States this week, the Federal Reserve — the country’s central bank — on Thursday held a regularly scheduled meeting of its Open Markets Committee (OMC); the bank’s main monetary policy decision-making body.
When it meets and announces its findings, policymakers from every corner of the planet tend to sit up and take notice.
Ultimately, the Fed decided this week to keep monetary policy unchanged for the time being.
There were, however, a couple of interesting comments in a post-meeting press conference from Jay Powell, the chairman of the central bank.
Although he was quick to steer the discussion away from the election, Powell sounded warning for US lawmakers. “Fiscal policy can do what we can’t, which is to replace lost incomes for people who are out of work through no fault of their own,” Powell said, calling government spending measures “absolutely essential”.
(For anyone who needs a quick refresher on Leaving Cert economics, monetary policy, broadly relates to the efforts of central banks to achieve policy objectives through control the money supply, interest rates etc. Fiscal policy relates to government spending, borrowing and taxation).
Indeed, Powell has been increasingly vocal in his calls for Washington to spend more to help support the recovery with most of the money from the massive stimulus measures passed in March about to dry up.
Run-off election
Despite months of negotiations, the White House failed to reach an agreement with congressional Democrats on a new stimulus package before Tuesday’s presidential election.
Roughly speaking, the Democrats want a $2 trillion package while Republicans would only settle for $1 trillion, having passed the $3 trillion pandemic-related HEROES Act in May.
Results this week could complicate matters further.
It looks likely that the Democrats have held onto control of Congress, albeit with a slimmer majority.
In the Senate, they needed to pick up three seats to secure a 50-50 split, which looked unlikely early on in the week.
That split would allow Vice President-elect Kamala Harris to act as tie-breaker in any Senate vote on the stimulus or other measures until, at least, the 2022 mid-term elections.
As of today, it looks like the Democrats look to have picked up one of the three needed.
However, in two Senate races in Georgia, no candidate won enough votes to surpass the percentage required by the state’s laws to be declared the winner.
That means two races are heading for a run-off election on 5 January in which Republican and Democratic Candidates will compete in a straight head-to-head contest to determine a winner.
For President-elect Biden and hopes of fresh stimulus, a lot will hang on those two races.
If Georgia goes his way, it’s expected Biden will push for measures with a final price-tag closer to $3 trillion.
Preliminary agreements have already been reached in Congress on some of the terms of the new stimulus measures, which include $1,200 direct transfer payments to families.
On top of that, Biden wants to hand out “additional stimulus” cheques to families and monthly social security checks by $200 per month. But without the Senate, it’s likely his plans will be significantly watered down by Republicans.
There’s also the possibility that the GOP could look to rush through stimulus over the next three months while Trump is still in office.
Republican Senate Majority Leader Mitch McConnell indicated on Wednesday he wants to quickly approve new legislation in the “lame duck” session, marking the final weeks of the current Congress.
But in the past, he has favoured only limited programmes and he seems increasingly swayed by the arguments of the ‘fiscal hawks’ in his party.
Whether Trump would sign off on a deal during that period, is another story altogether.
His economic adviser Stephen Moore told the Washington Post on Thursday that “Trump does not want the last thing he does in office [to be] a $2 trillion debt spending bill. We want Biden to own that, not Trump”.
Rock bottom
On the economic policy front, what’s going on in the US should actually be familiar to us here in the eurozone.
“It’s become very clear that monetary policy alone is at the end of what it can do,” on both sides of the Atlantic, says Conor O’Toole, Senior Research Officer at the Economic and Social Research Institute (ESRI) in Dublin.
“It just cannot do any more. It’s been incredibly accommodative. It is providing all the funding it can through both standard and non-standard measures. But what has to happen now is that the government steps in with fiscal responses.”
But why exactly?
Like the European Central Bank (ECB), the Fed has slashed interest rates, which are currently at or very near rock bottom.
With no room to manoeuvre on interest rates, the Fed like the ECB, has to rely on ‘non-standard’ policy mechanisms to keep money flowing into financial markets and effectively prop up the economy.
Like the ECB — which has been literally printing money and using it to buy up lots of the extra debt issued by eurozone governments since March — the Fed is snapping up about $80 billion worth of US government ‘treasuries’ (bonds) every month in a bid to keep borrowing costs low for the American government.
Again, like the ECB, the Fed has also been purchasing not just public but corporate debt on a huge scale, a policy which has helped keep stock markets buoyant since the start of the crisis.
‘Quantitative easing’ of this kind also keeps money pouring into financial institutions, keeping them in ‘liquidity’ so they can continue to lend to businesses and individuals.
That’s all well and good, says O’Toole but monetary policy has its limits — and both the Fed and the ECB have stretched it about as far as it can go.
While monetary policy can lead the horse to water, so to speak, — lowering borrowing costs for governments so it can raise debt and spend it on stimulating the economy — it can’t make it drink.
That’s where fiscal policy comes in, says O’Toole. “That’s where the government spending needs to take place and that’s what they can’t agree on in the States.
“But they’re going to have to because it’s badly needed,” he says.
Mirror image
Faced with the same issues, Powell’s opposite number in the ECB, Christine Lagarde, has been humming a similar tune since the start of the pandemic.
Lagarde is practically blue in the face from telling European policymakers to get a massive fiscal spending package on-stream as soon as possible.
That package — the €750 billion EU recovery fund agreed upon, in principle, by EU leaders in July — is still winding its way through the bloc’s decision-making process, delayed, in typical fashion, by a disagreement between political leaders about how it will work.
In lieu of that, individual member states have launched massive fiscal spending initiatives to boost their respective economies.
“Ireland’s a clear example of that,” says O’Toole with the government having announced its “biggest ever budget, a massive amount of spending and a huge government deficit probably in the mid €20 billions”.
“But it’s the right thing to do,” he says.
“To be perfectly honest in the short term, governments need to borrow whatever they need to undertake spending both on the healthcare side, and also to support households and firms.”
So monetary policy can create the conditions for that sort of government action, but it can’t put money into the hands of citizens or businesses.
But what can the Fed do if it’s already stretched to its limits?
It could do what the ECB is likely to do in December — increase the overall firepower of its purchasing programme.
But above all else, says O’Toole, Fed policymakers have to “make sure that they don’t walk back prematurely” on the aggressive emergency actions undertaken in recent months.
“They have to continue to provide whatever liquidity assistance is needed, so that the American economy can come through the public health phase of this particular crisis.”
Interest rates aren’t even that important right now, he believes.
He explains, “The most important thing is the unconventional measures… providing the appropriate level of firepower to the fiscal authorities to undertake spending.
“To me, like, it’s a mirror image of what we need the ECB to do in Europe. We need the ECB to give the individual member states the capacity to do the fiscal spending right. That is its most important job over the next 12 months.
“It’s the same in the States.”
— Additional reporting by © AFP 2020
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