Here we go. First, it was former Fed Chair’s Bernanke & Yellen wanting to expand the Federal Reserve’s authority to buy corporate bonds to bail out bad actors and hot money that apparently can’t tolerate a little bit of volatility. Maybe it’s the guilt or remorse of pushing investors to take more risk than was prudent by holding rates at zero for a decade, but justifying the expansion of the Fed’s powers to include corporates is a real bad idea.
The reasons are many and varied, but this one top’s the list. If the Fed opens the floodgates to buying assets besides Treasuries, it will only be a matter of time before the political class picks up Bernanke’s idea and runs with it. If the Fed is going to bail out companies and speculators by purchasing corporate debt, what about all the profligate states, cities and municipalities that can’t seem to live within their means?
It only took a few days. The Democrats are already proposing legislation that would require the Fed to support state, territory, and local debt.
It won’t be long before the political class takes this a step further and instructs the Fed to buy stocks. You can already hear the arguments. Millions of peoples’ retirement depends on the level of the stock market. We can’t have stock prices falling. Huh?
Not surprisingly, Janet Yellen has already suggested as much.
Sounds a lot like nationalization to us.
You can read more about the half-baked plan to buy muni debt here.
The chairwoman of the House Financial Services Committee is proposing that the Federal Reserve take the unusual step of supporting debt markets for state and local governments, which are on the front lines in the battle against the coronavirus.
California Democrat Maxine Waters asked Democratic colleagues to back legislation that would require the Fed “to support state, territory, and local debt issuance,” according to a letter dated March 18.
This month the municipal-bond market has gone through its worst rout in modern history.
The securities are headed for a 5.6% drop so far in March, the worst month of performance since 1984, according to Bloomberg Barclays indexes. Yields on top-rated municipal bonds have seen a massive move higher since just March 9, with 30-year yields increasing over 1.5 percentage points to about 2.9% on Thursday afternoon.
“If the Fed provided this low-cost financing, it would instantly give hundreds of different governments across the country the financial ability to put their epidemic-fighting efforts into high gear, funding everything from new medical facilities, protective gear for health-care workers, measures to ensure continuation of key public services and support for social distancing,” Marcus Stanley, director of Americans for Financial Reform wrote in a Bloomberg Opinion column Thursday.
But such action may require a modification of the Federal Reserve Act if the Fed used open-market operations to stabilize the market and buy the debt outright. That would also constitute a form of quantitative easing, adding to the Fed’s at least $700 billion of purchases in Treasuries and agency-backed mortgage debt that the central bank announced in an emergency move Sunday.
If the Fed launched a new special purpose facility to support the muni market, it would also require authorization by Treasury Secretary Steven Mnuchin.
Normally the Fed is averse to transacting in anything but the highest rated debt to avoid credit risk. There are also thorny issues about how it would approach these purchases without pushing down borrowing costs for only the highest-rated and richest counties and states.