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September 5, 2020

Policy

In mid-summer, with the resurgence of reported cases of Corona virus, the Federal Reserve announced its intention to maintain its benchmark lending rate at 0 to .25%, until at least 2022.  Some members think it will be extended even longer.  The decision was made unanimously by the Federal Open Market Committee which is the policymaking branch the Federal Reserve.  This rate represents the fee charged for loans between financial institutions and it has a significant impact on consumer interest rates.  Although it does not represent any specific rate on mortgages, the current low rate of less than 3%, for a thirty year fixed mortgage, is likely to be sustained with this policy.  That is the good news.  The bad news is that the standards to obtain the most favorable loan rate will likely be stricter, applying to those with a credit score of 700 or above.

The action was taken as a consequence of the sustained high level of unemployment, which was significantly greater than the highest level (10%) seen in the Great Recession of the last decade. There was a dip in the rate due to more jobs available in the summer, probably due to temporary government hires and the reopening of restaurants, retail stores, and other small businesses.  Amid concerns that these openings were made in haste rather than by informed health deliberations, economists fear for the mid-term fallout to the economy.  They predict a sustained economic slump due to the slow recovery of industries such as food services, bars, recreation, air travel and any other activity engaging large numbers of participants.

The sustained public health crisis makes it difficult to accurately predict a timetable for its resolution and a concomitant stabilizing effect on the economy.  The Fed predicts a 6.5% shrinking of the GDP for 2020 and a growth of 5% in 2021 and 3.5% in 2022.  To further aid the economy they have pledged to flood it with “cheap money” and trillions of dollars in loans to keep businesses and local governments intact.  They caution that these policies need to be met with similar government programs and urge support for the three billion dollar stimulus passed in the Democratic House in May, and stalled in the Senate.  That program would provide the equivalent of the multiple programs passed in March by the Trump administration.

Analysis

The Fed’s actions regarding the prime lending rate reflect the dramatic crisis facing the economy and highlight the need for policy action on multiple fronts.  The rush to reopen the economy may have been penny wise and dollar foolish.  This is not a time to herald the resilience of the stock market which has seen gains of 3% in the S and P 500 over the past year and 6% in the Nasdaq 100 so far this year.  The suffering of a large portion of American workers and small business owners must be addressed by humane and compassionate financial policies.  One way to promote this aid is to vote in November.

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