MNI EXCLUSIVE: Fed Sees Covid Surge as Mounting Recovery Risk

The latest Covid surge is putting the U.S. economic recovery at greater risk than Federal Reserve policymakers had anticipated, forcing the central bank to consider additional monetary easing even as officials acknowledge the prospect of stronger growth once a vaccine is widely rolled out, current and former officials tell MNI.

With the timeline for vaccine distribution in the range of at least six months or longer and myriad doubts about logistics and uptake remaining, policymakers are worried about a renewed stalling of growth.

Meanwhile, Congress's inability to deliver a new fiscal stimulus just as the virus crests again is already taking a toll on consumer confidence and spending at stores and restaurants, strengthening the Fed's resolve to act despite concerns about the limited benefits of additional monetary easing.

"The very rapid surge over the past month or so has been shocking and that's going to have an impact on economic activity," Calvin Schnure, a former Fed board staffer, said in an interview.

"The Fed is in accommodative mode regardless," said Thomas Hoenig, former president of the Kansas City Fed, in an interview. "It's just a matter of how much more accommodative they might need to be given fiscal policy choices made."

BALL IN FED'S COURT

MNI has reported the Fed is considering a number of possibilities to step up its QE program, including extending the average maturity of purchases, increasing their total amount from the current USD120 monthly pace, or changing their composition. Boston Fed President Eric Rosengren told MNI he favors lengthening the duration of Treasuries purchases rather than increase buying.

Fed officials believe the third quarter's 33.1% annualized rebound in GDP from the second quarter's historic slump was based in large part on massive support from fiscal and monetary authorities starting in March, and that any vacillation now could have dangerous consequences.

A political stalemate in Congress is likely to delay and even potentially derail any new stimulus deal, while optimism about vaccines might lessen the political imperative for a large stimulus even under a Joe Biden presidency if Republicans retain control of the Senate in two pending run-off races in Georgia.

That places an even greater onus on the Fed to remain an active source of additional economic support, sources say.

"As we see the spreading of the virus, most certainly followed by at least limited shutdowns -- that's going to take a big dent out of our recovery in the fourth quarter and the first quarter," Richard Roberts, a former Fed economist who teaches at Monmouth University, told MNI.

"If fiscal policymakers are going to be silent, that leaves the ball back in the monetary policymakers' court."

VACCINE CALCULUS

Fed Chair Jerome Powell was quite cautious in discussing the recent spate of positive test results from vaccine manufacturers, warning of "significant challenges and uncertainties remain about timing production, distribution, and efficacy for different groups." Vice Chair Richard Clarida was more sanguine, raising the possibility that "the recovery for the pandemic shock could be potentially more rapid, and more rapid than the financial crisis."

Internally, however, policymakers are converging on the near-term threats to recovery as the more pressing issue for the central bank, which meets next Dec. 15-16.

The unemployment rate spiked well into the double digits in the two months following the start of the pandemic, and has since come down sharply to a still-elevated 6.9%. Fed officials see additional declines as likely to happen much more slowly, with deepening fears of scarring in the labor market heightening the urgency of guarding against any further deterioration.

"The Fed would not take such news (about early breakthroughs in vaccines) into account in formulating policy -- it's much too hypothetical at this point," said Charles Steindel, a former New York Fed staffer who also spent time at the Fed's Washington-based board of governors, in an interview.

"It's likely, though, that the basic macro outlook assumes the pandemic will be under control or retreating by the middle of next year. The vaccine news is merely in line with that scenario."