Last night, the Fed sent out a stunning press release announcing how “encouraged” it is that banks are queuing up at the discount window. It’s surely true that the crisis would be even worse without everything the Fed’s done so far, but that which is less bad still isn’t good. The Fed is making the same mistake all over again: expecting that a deluge of big money from on high into the market will eventually irrigate the grassroots. In a financial crisis, it might; in demand and supply shocks of unprecedented ferocity due to a dangerous pandemic, it won’t. Congress is right – wide-open windows must move to ground level, flooding not just households, but also municipal-bond issuers, small businesses, and debt servicers with the cash they desperately need to stop a hemorrhaging liquidity crisis from turning into an unparalleled solvency disaster.
As we noted yesterday, Congress is demanding that the Fed use its formidable might for people, not just markets. It does so because it knows instinctively what financiers such as Ray Dalio learned along the way to their billions: markets serve themselves and only indirectly do good for the underlying economy and the hundreds of millions struggling every day in it to make ends meet. This “follow the money” theorem shows us why Fed policy since 2008 made the U.S. so much more unequal so much faster than ever. Using it now illuminates in stark light why these trillion-dollar windows for the market are not nearly fast enough to end a panic that has nothing to do with financial markets.
As I write this, markets are up because hope is high for fiscal-policy relief. God willing, it will come. However, early reports indicate that, a trillion-plus notwithstanding, the legislation will pick winners and losers that leave many still starved of the liquidity they urgently require. Thus, the question we must urgently answer over the weekend is not whether the Fed should establish new, bottom-up facilities – it must – but which facilities it must establish and then how to do so as quickly as possible.
I’m unsurprisingly partial to my own proposal for a Family Financial Facility, but a more complex variation on this construct from Kevin Warsh would do the trick, albeit more slowly and thus less well. Fiscal relief is heading to households and small businesses, but major questions remain about who will get what. For example, the Senate GOP’s big checks for “every” American actually bypass very-low income households. Small-business aid is similarly targeted at companies that already have SBA loans, bypassing millions of very small companies backed by home equity lines or even credit cards.
Another urgent window must open for municipal finance — huge strains in state and local finance are showing and these will only get worse as the pandemic’s cost skyrockets. New Fed support for muni-bond funds and direct fiscal aid are essential, but it won’t be enough to buffer the trillions in COVID costs and the long-term damage the Fed’s even lower rates do to long-term municipal viability. Municipal finance was in a slow-mo crisis before COVID thanks largely to the Fed; the Fed now must fix both its own handiwork and that of the national emergency.
Loan servicers may also need more liquidity from the Fed, but pending fiscal-rescue legislation may either do the trick or – more likely – make it clear where liquidity can most effectively be deployed. A bill with all the loan forgiveness Democrats demand will need smaller or even no servicer backstops; a bill that leaves most debtors to fend for themselves will put finance under still more acute stress.
Yes, these windows are bailouts – bailouts that speak to all the missed opportunities to shore up huge swaths of the financial system outside the reach of post-crisis regulation. But, we need bailouts now; retribution can come later.
Even so, we need to think twice about bailouts delivered by both fiscal and monetary policy for the biggest borrowers with the deepest pockets. The one window I know the Fed shouldn’t open is the one recommended by former Fed Chairs Bernanke and Yellen. This called for a corporate-bond backstop. But, not only is this another trickle-down policy, but it’s also one that could expand fiscal bailouts for big borrowers such as airlines and hotels without ever reaching small-cap companies such as the ones that make urgently-needed medical equipment. The Fed must resist the temptation of helping only those it knows and, if it can’t resist backing big money, Congress must force it to help everyone else instead.