US Fed leaves its rate unchanged at 0-0.25%

• The US Fed kept its Federal funds rate unchanged at the range of 0-0.25%
• Development of the economy will depend largely on course of the outbreak
• Expansion of Fed’s balance sheet to continue at least at the current pace in order to maintain smooth market functioning.

US Fed to continue with asset purchases at the current pace for now

The US Federal Reserve (US Fed) kept its Federal funds rate (FFR) unchanged at the range of between 0-0.25% for the third consecutive meeting. In its latest assessment of the economy, the US Fed highlighted that economic activity and employment have seen some improvement in the recent months, but still remain below their levels at the start of the year. Besides that, overall financial conditions have also improved in recent months partly due to policy measures to support the economy and flow of credit to households and businesses. It was guided that going forward, the development of the economy will largely depend on the course of the outbreak as the public health crisis is expected to weigh on economic activity, employment and inflation in the near term. This will also be downside risk to economic outlook in the medium term. In terms of inflation, US Fed noted that weak demand and low global oil prices are pinning inflation down, hence, it will assess realized and expected economic conditions relative its maximum employment objective and its symmetric 2% inflation objective.

As for the balance sheet, the US Fed guided that it will increase its holdings of Treasury securities and agency residential and commercial mortgage-backed securities at least at the current pace in order to maintain smooth market functioning. The US Fed expects to maintain the FFR at its current range until it is confident the economy has “weathered recent events and is on track to achieve its maximum employment and price stability goals”. However, in view of the cautious stance on the economic outlook, we believe US Fed may provide more accommodation on monetary policy. The Fed’s balance sheet from asset purchase program rose from US$4.2trn in February to roughly US$7trn currently, sharply larger than the high of US$4.5trn during the financial crisis of 2008–2009. Some market observers believe the US Fed will likely increase its Treasury securities as well as corporate bond purchases in the months ahead, if required.

Nevertheless, the US economy has shown some signs of recovery recently amid a gradual reopening of business activity. For instance, in June, the unemployment rate in the US fell by 2.2 percentage points to 11.1% from its last peak of 14.7% in April, as nonfarm payrolls added 4.8 million jobs in June (+2.7 million in May). Similarly, retail sales improved in June, rising by 7.5% mom (+18.5% mom in May) as businesses resumed operations. In housing market, sales of new US single-family homes surged by 13.8% mom to a near 13-year high in June supported by low interest rates.

However, we believe that recovery in the US economy is by no means returning to normal, as reflected in the initial jobless claims, which rose for the first time in almost four months to 1.42 million for the week ending July 18 from 1.31 million in the previous week, as rise in new cases may have caused several states to delay reopening. Besides that, the additional weekly US$600 for the unemployed is also expected to end on July 31 which will negatively impact those that are self employed and gig workers. In addition, the rising number of new cases in the US could likely lead to lockdowns in certain states. If lockdowns are imposed, we believe this will also weigh on consumer sentiment and spending.

Source: Affin Hwang Research - 30 Jul 2020