central banks

23 Mar 2020

What are Central banks doing to offset the impact of COVID-19?

Around the world, central banks and policymakers are grasping for levers that can help economies muddle through a COVID-19 pandemic. Now it has already arrived in more than 150 countries. As quarantine and isolation measures against coronavirus spreading pick up momentum in various critical markets, there is an air of panic about what lies ahead. 

Until recently, investors were enjoying substantial gains. With world markets now in serious turmoil, COVID-19 has probably brought this trend to an end. Market confidence is weak. Besides, asset prices are very unstable. Many stock markets are down by around 20% from January peaks, while oil has been destabilized by the price war between the Saudis and Russians. 

central banks
Check what the central banks are doing to offset the impact of COVID-19! (Source: Wall Street Journal)

Measures taken by the central banks

The U.S. Federal Reserve has rolled out an aggressive macroeconomic stimulus package and also virtually erased what was left of its benchmark interest rate in a desperate bid to spare the world’s biggest economy from a deep, coronavirus-induced recession. The European Central Bank (ECB), without much room to maneuver on interest rates already low, unveiled a new, €750 billion bond-buying program in response to COVID-19. The measure was announced after the US had announced a $700 billion program on a day.

The coronavirus emergency is a classic case of an “external threat”. Thus, it calls for bold and timely measures to make the world markets more stable. The big issue is what happens if the COVID-19  persists and default rates on the debt increase. In this case, central banks and governments would have to step in with more assistance. 

An important change in the epicenter of COVID-19

With more citizens infected than in China, the European Union is now the world’s COVID-19 epicenter. Europe is finding it politically challenging to implement timely and macroeconomic stabilization measures in coronavirus crisis, mainly because of its institutional framework with no centralized fiscal authority. Euro-area finance ministers’ common response they wish, without worrying about European fiscal rules.

The EBC package against COVID-19 actually consists of a bank-subsidy scheme. It enables financial institutions to borrow from the central bank at below the ECB’s deposit rate. Such loans will impose limited financial losses on the ECB while shoring up euro area banks’ capital position.

Even if policymakers do manage to keep pumping money into economies, it remains unclear whether that will be decisive to help markets against coronavirus crises. If containment measures fail, the central banks may still end up in trouble. They may also stop lending again and a long-term recession would become a certainty. In such a situation, we would be in truly uncharted territory after COVID-19.