Given these conditions, on October 6, Fed Chairman Jerome Powell told the National Association for Business Economics that “too little support would lead to a weak recovery.” He added that the risks of “overdoing it” seem less than doing too little.9 This is not the first time the Fed has tried to dictate economic outcomes by influencing capital markets, but it is being more brazen about it. In November 2010, then Fed Chairman Ben Bernanke wrote an op-ed piece in the Washington Post that explained the rationale behind the Fed’s second quantitative easing program: “[Quantitative easing] eased financial conditions in the past and, so far, looks to be effective again. Stock prices rose and long-term interest rates fell when investors began to anticipate this additional action. Easier financial conditions will promote economic growth. For example, lower mortgage rates will make housing more affordable and allow more homeowners to refinance. Lower corporate bond rates will encourage investment. And higher stock prices will boost consumer wealth and help increase confidence, which can also spur spending. Increased spending will lead to higher incomes and profits that, in a virtuous circle, will further support economic expansion.”10

 

In response to the pandemic, earlier this year, the Fed implemented the Secondary Market Corporate Credit Facility and purchased billions of dollars of fixed income exchange-traded funds (including funds that hold high-yield bonds) and the bonds of corporations such as Alphabet, Amazon, Apple, Toyota, and Walmart.11 These purchases enabled investment-grade companies to issue $1.6 trillion in new bonds in 2020—an astounding 72% increase relative to last year.12 Even companies with below investment-grade credit ratings have been able to access capital markets. Companies with junk ratings have issued $325 billion in new bonds this year, a 57% increase relative to last year.12 This theme is not limited to the U.S. In September alone, corporate bond sales globally totaled $434 billion, the largest monthly issuance ever.13 Meanwhile, the Main Street Lending Program has disbursed just $2 billion with the first deployments occurring in July, nearly four months after the aforementioned program began buying securities.14

 

It appears the Secondary Market Corporate Credit Facility and quantitative easing programs will be sufficient to achieve the Fed’s stated goal of supporting asset prices. As of October 7, the 10-year Treasury note yielded 0.8%, and investment-grade corporate bond spreads hit 101 basis points, both near all-time lows. Similarly, the S&P 500 is near an all-time high, despite trading near the high end of its historical valuation range. Although the Fed may be able to support asset prices, there is only so far that monetary policy can go. For instance, the number of Americans who need the Supplemental Nutrition Assistance Program (SNAP) jumped 16% in just three months through May and it now includes 43 million people.16 Unfortunately, while investors have feasted, a non-trivial number of people need help putting food on the table.

 

The structural economic damage inflicted by COVID-19 appears daunting, but it may be promising that the capital markets seem willing to tolerate massive amounts of federal debt issuance and monetization of that debt. Indeed, inflation remains contained, and the U.S. dollar has been range-bound for the past six years. Looking ahead, the Fed’s willingness to tolerate higher inflation—thereby lowering the real (inflation-adjusted) return for investment assets—will be most obvious in the fixed income markets. As investors absorb this reality, they may move away from these securities in search of a higher interest rate to compensate them for this risk. If that occurs, the Fed can assuage those higher yields (and lower prices) with increased asset purchases.

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