The Fed's current rate cut is fundamentally different from the 2008 financial crisis, or may trigger a new round of global central bank interest rate cuts

Author | Xu Yiying

In the early hours of March 16, the Fed announced that it would lower the federal funds rate by 100 basis points to 0-0.25%, and also announced the launch of a US $ 700 billion quantitative easing program, including the purchase of US Treasury bonds of US $ 500 billion and the purchase of mortgage-backed securities (MBS) 200 billion US dollars.

This means that, 12 years later, global finance is back in crisis again. In just half a month, the Fed ’s federal funds rate fell directly from 1.5% to the zero interest rate range. On the magnitude of the interest rate cuts, the speed, and the volatility of the market, even the 2008 financial crisis is difficult to reach.

The current Fed rate cut is also fundamentally different from the 2008 financial crisis.

First of all, this Fed rate cut is different from the triggering factors of the 2008 financial crisis. The 2008 financial crisis was triggered by the “internal factors” of subprime loans in the financial market and the hidden risks of long-term resident sector plus leverage. The Fed's interest rate cut is due to the real economy hit by the epidemic, and is an "external factor" of finance.

Secondly, financial and physical crises have different results. The subprime mortgage crisis in 2008 led to the disappearance of liquidity in the overall financial system. At the same time, the panic and credit contraction caused the collapse of demand, but it did not affect the short-term supply capacity of the real economy. In this epidemic, the real economy has been severely hit, demand and supply have decreased simultaneously, the cash flow of enterprises and residents has serious problems, and a large number of private sector debts may default.

Finally, the affected objects are different. The impact of the 2008 financial crisis was on some large financial institutions and real economy enterprises. These companies were unable to revolve their debts and fall into a liquidity crisis. The abnormal capital turnover of these companies has dragged down the overall economy. In 2020, the target of the epidemic is large and medium-sized enterprises, and these enterprises may fall into a pandemic crisis and solvency crisis.

In summary, during the 2008 financial crisis, within one year, the Federal Reserve lowered the federal funds rate from 5.25% to 0-0.25%, and then launched two rounds of quantitative easing in March 2009 and November 2010 respectively. The market injected 2 trillion US dollars. The effect is obvious. In January 2009, the US economy bottomed out, and the stock market rebounded from its lowest point in March, opening a ten-year bull market. And this time the spread of the new crown epidemic, US stocks have been melted several times in a row, the Fed once again used the "violent bailout" tool, but this time the Fed's series of operations may not work. Because monetary policy is not a panacea. Monetary policy can solve the liquidity crisis in financial markets, but it cannot cure the real economy. The test of the new crown epidemic this time is not the Federal Reserve's bailout level, but the social governance capacity of the United States.

The Fed's interest rate cut will also have a series of effects:

U.S. stock market

Theoretically, interest rate cuts will reduce the cost of capital financing, release liquidity, drive stock price growth, and promote the growth of the US stock market. However, the Fed's announcement of interest rate cuts did not prevent US stocks from falling. The reasons include two reasons: in addition to the market's full expectations: first, the U.S. emergency announcement of interest rate cuts aggravated the market's concerns about the economic situation; The economic effect is relatively low, because the shutdown caused by the epidemic and the reduction in consumption are not monetary policies that can be solved. Whether future policies can be effective depends on whether they can comfort the market's risk aversion. Considering the uncertainty of the epidemic situation and the fact that many indicators have been at a high level after the US stock market has been growing for ten years, the future volatility will increase significantly.

Dollar and gold

As the US dollar is an international universal reserve currency, after interest rates are cut, people will start to convert the US dollar into other non-interest-reducing currencies and commodities, and sell off the US dollar, which will lead to the depreciation of the US dollar, which will lead to increased exports and reduced imports.

The Fed's interest rate cuts will cause the dollar to depreciate, leading investors to reduce investment in the dollar and increase investment in gold, thereby stimulating the price of gold.

Fed rate cuts will trigger a new round of global interest rate cuts

Due to the uncertainty of the new crown epidemic and its potential impact on global economic growth, countries will take all measures to achieve strong, sustainable (economic) growth and prevent downside risks. In the money market, the Bank of England cut interest rates by 15 basis points in March. At the same time, the Bank of Canada urgently cut interest rates on the 30th, reducing overnight interest rates to 0.25%, bank interest rates were correspondingly 0.5%, and deposit rates were 0.25%. Before the Federal Reserve, the Reserve Bank of Australia has announced a 25-basis point reduction in March cash rate to 0.50%, a record low. The Reserve Bank of Australia also said it was prepared to further relax monetary policy.

Impact on China

The pressure of RMB depreciation is reduced, which is conducive to importing goods from abroad, but not conducive to exports. Since China's economic situation is relatively stable, and the interest rate differential between the RMB and the US dollar will decrease after the interest rate cuts, some international hot money will gradually benefit the Chinese financial market, which is also good for the stock and property markets in the long run. But overall, the Fed ’s monetary policy adjustment has relatively limited impact on China. For the first time, in terms of epidemic prevention and control, China has effectively contained the epidemic and made substantial progress, while the United States is still in the outbreak stage, as far as economic growth is concerned. China pays more attention to the balance of epidemic prevention and control and resumption of production and production, which provides more stable support for economic growth and employment. Secondly, in the financial market, due to China ’s strict financial supervision and systemic risk prevention and control, the risk exposure level of China ’s financial system is relatively low; especially in the macroeconomic aspect, it has actively responded to the impact of the epidemic. Active arrangements and effective overall planning have been made in industries and other fields. Therefore, at present, the domestic currency market, capital market and foreign exchange market as a whole remain stable, and the stock market is less volatile than the European and American stock markets.