The Fed released its latest meeting minutes. I discussed the bank’s analysis of the coincidental economic data in my Friday market recap. The Bank also discussed its analysis of economic risks, which included several scenarios (emphasis added):
“Several risks to the outlook were noted, including the possibility that additional waves of virus outbreaks could result in extended economic disruptions and a protracted period of reduced economic activity.”
This is already happening to some degree. A number of states in the South and West that reopened have been forced to scale back those efforts due to the virus. This will lower the growth rate.
“In such scenarios, banks and other lenders could tighten conditions in credit markets appreciably and restrain the availability of credit to households and businesses.”
Banks entered this recession in strong shape due to increased capital requirements. While they obviously took a hit in the 2Q20, we don’t know the degree yet. The FDIC hasn’t issued the latest Quarterly Banking Profile while the financial industry data at the Federal Reserve is also being updated. We do know that lending standards are already tightening:
Credit card lending standards are already at the levels during the previous recession, as are…
…lending standards for commercial and industrial loans.
Expect this to continue.
The Fed is also concerned about declining fiscal support (emphasis added):
“Other risks cited included the possibility that fiscal support for households, businesses, and state and local governments might not provide sufficient relief of financial strains in these sectors…”
Consider these two charts:
Wages paid to private employees dropped approximately $1 trillion…
…while unemployment insurance payments increased over $1 trillion, more than making up for the drop in private wage income. This infusion of cash is a big reason why consumer spending has rebounded so strongly during the last few months. But the status of additional payments is in a bit of limbo; should additional fiscal stimulus remain in this position, economic growth could drop.
The pandemic may accelerate the speed at which some industries are changing (emphasis added):
“Several participants noted potential longer-run effects of the pandemic associated with possible restructuring in some sectors of the economy that could slow the growth of the economy’s productive capacity for some time.“
The most obvious candidate for this statement is retail, which was already under pressure due to the long-running online/brick-and-mortar clash. The chart of total retail employees illustrates the situation:
The total number of retail service employees probably hit its peak in mid-2016. It has been trending lower since. Because this industry is “consumer-facing,” it took a big hit in the pandemic-caused lockdowns. The numbers have bounced back. But at the same time, there have also been a large number of retail bankruptcies – a trend that will obviously increase.
“Nonfinancial corporations had carried high levels of indebtedness into the pandemic, increasing their risk of insolvency.“
Low interest rates have encouraged companies to issue a record amount of debt:
Here’s the same data as a percentage of real 2012 GDP:
Large-cap companies are probably fine. But the smaller the company, the more likely it will default on its debt. This is especially true of hard-hit economic sectors like energy and retail companies.
“There were also concerns that the anticipated increase in Treasury debt over the next few years could have implications for market functioning.”
I’m somewhat less concerned about this than others. There will always be a large number of buyers of US treasuries, including pensions, insurance companies, sovereign wealth funds, and mutual funds.
As a result of the large numbers of risks, the Fed will keep rates low for an extended period of time (emphasis added):
“They noted that the path of the economy would depend significantly on the course of the virus and that the ongoing public health crisis would weigh heavily on economic activity, employment, and inflation in the near term and posed considerable risks to the economic outlook over the medium term. In light of this assessment, all participants considered it appropriate to maintain the target range for the federal funds rate at 0 to 1/4 percent. Furthermore, participants continued to judge that it would be appropriate to maintain this target range until they were confident that the economy had weathered recent events and was on track to achieve the Committee’s maximum employment and price stability goals.“
We won’t be seeing a rate increase for at least a year, if not longer.
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