Economists warn central bank and government policy will not calm pandemic sell-off
Will QE and helicopter money do more harm than good?
Orthodox monetary and fiscal policy will not be enough to reassure investors and calm market volatility amid the ongoing fallout of the coronavirus pandemic, economists have warned, while even radical policies such as helicopter money could fail to end the mass sell-off.
Over the past two weeks central banks have rushed to slash interest rates to record lows, and boost quantitative easing (QE) and liquidity measures, but equities and other assets across the world have continued to plummet in value.
The US Federal Reserve's sudden move to cut interest rates to between 0% and 0.25% on 15 March may have shocked markets into reacting more strongly, with losses across nearly every asset class bar governments bonds, which barely moved in the days that followed.
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According to a 17 March update from DWS the Fed's "latest and drastic cuts" revealed to equity investors "the seriousness of the situation", while ending "market hopes of further rate cuts later on", particularly as the bank made clear it would not cross the zero threshold.
DWS warned the Fed "should probably not be counted on as a support for the stockmarkets for the time being", and instead be seen through the prism of "pain relief, but not disease control", adding monetary and fiscal rescue packages are merely a "necessary means of ensuring that the markets and the economy function as well as it is possible".
It added: "With a lot of risk budgets exhausted due to the higher risks, many investors would probably have to continue to dispose of equities and corporate bonds. Even the central banks' rescue packages can do little to change this."
Speaking to Investment Week chief economist at BNY Mellon Investment Management Shamik Dhar said the Fed and other central banks had "done the right thing" by loosening monetary policy, while "leaving themselves room to do more, particularly with regard to QE", and have alleviated some stress on government bond markets, FX crosses and parts of the credit market, for example.
However, he explained the global economy is not facing a "nominal shock" but a "real shock", which orthodox monetary policy can "cushion" but not "offset".
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With regard to the potential for "unorthodox" future policy Dhar said the Fed would rather continue to utilise further "quantitative tools and forward guidance", but it could not be ruled out.
In terms of 'helicopter money', whereby central banks attempt to stimulate the economy by making direct transfers into private hands, Dhar said this may be "quite far away" but "more and more radical solutions are being considered every day".
He added: "In that context, all eyes turn to fiscal policy."
UK Government response
From a fiscal perspective, governments around the world have moved to put in place unprecedented packages in efforts to support their economies.
In his first Budget as UK Chancellor, Rishi Sunak announced a £30bn fund to help fight the economic impact of the pandemic and pledged to do "whatever it takes" to support the UK economy during the turmoil.
As the situation worsened Sunak announced a substantial next step in the fiscal policy response on 17 March, including £20bn of additional stimulus and a £330bn loan guarantee package.
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However, the response was also not enough to reassure equity market investors, with the FTSE 100 and 250 each selling off further in the following days while sterling fell to its lowest level against the US dollar in over 30 years.
Chief international economist at T. Rowe Price Nikolaj Schmidt said: "It now ultimately falls to governments to provide a convincing fiscal response if market volatility is to be assuaged".
However he warned: "Fiscal policy may not be able to achieve much in the near term, other than limiting the financial damage to corporations or households during this enforced period of economic hibernation.
"While this is obviously important, it may not calm markets immediately as fiscal measures tend to have low multiplier effects."
Prognosis
The consensus among economists is now therefore that while both drastic monetary and fiscal policies are necessary in securing longer-term economic prospects, concrete improvement in terms of the health crisis itself may ultimately be required to calm markets.
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EMEA head of investment strategy and research at State Street Global Advisors Altaf Kassam explained: "It is hard to think of events that could separately, in their own right, cause a market to rally. What you really need is the coincidence of a couple.
"Ideally the 'top three' would be: The credible news of a vaccine or treatment; risk capacity returning to trading, especially in fixed income and funding markets; and credible estimates regarding the extent of the economic downturn during the second and third quarter, assuming current lockdowns remain in place."
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