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Bruno Cavalier
Chief Economist at ODDO BHF

At the end of February, the US stock market peaked before losing one-third of its value in the blink of an eye (it has since made up more than 60% of its losses). Mid-March saw a spate of market dysfunctions, from money market mutual funds to the government bond market. Two months later, the financial meltdown is stemmed. Credit must go to the US central bank, which created (or recreated as in the 2008 financial crisis) emergency lending facilities to provide the desired liquidity. The financial system is in working order. This is a necessary (but not sufficient) condition to repair the devastation in the real economy.

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Anyone who has trouble sleeping could find a cure by reading section 13(3) which was added in 1932 to the Federal Reserve Act of 1913. This section is also useful in overcoming financial crises. "In unusual and exigent circumstances", it authorises the Fed to take special measures to provide the necessary liquidity to the financial sector and to non-financial agents.

This is the legal basis that the Fed used in 2008, after the collapse of Lehman Brothers, to ease operations for primary dealers, the commercial paper market, money market funds, and securitised consumer loans. These lending facilities have been reactivated. Others have been added with a view to supporting the corporate debt market (PMCCF/SMCCF), banks that lend to small businesses as part of the paycheck protection programme (PPPLF), those that lend to larger companies (MSLP), and last the state and municipal bond market (MLF). To cover the risk of capital losses inherent in these operations, which deviate from its normal activity, the Fed has secured guarantees from the US Treasury Department, drawing criticism from members of Congress. Similar concerns regarding moral hazard were expressed in the 2008 financial crisis, but at the end of the day, the Fed recorded zero losses. Several of these programmes will not be launched until next month. Those that have already been active for a few weeks involve modest amounts compared with direct purchases of government securities or swaps with foreign central banks (table lhs). This is what the credibility of a central bank is measured by. The guarantee that there is a lender of last resort is often enough to restore operations on the capital markets to normal, without which no economic recovery is possible. Overall, financial conditions have not fully returned to what they were pre-crisis, but most of the disruption has been corrected (chart rhs).

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