Federal Reserve Chairman Jerome Powell Tuesday made good on pledges to battle “evolving risks to economic activity” posed by the novel coronavirus outbreak. Yet his bold 50-basis-point rate cut did something even better for Asia: it gave the region cover to add bigger monetary jolts of its own.
Though authorities in Malaysia and Australia beat Powell to the punch, the Fed set the scene for others to follow. A few days ago, central banks might’ve worried about unnerving currency markets with assertive rate cuts – or getting on US President Donald Trump’s radar as currency manipulators.
Now, central bankers that don’t act in some way risk appearing asleep at the controls.
Northeast Asian standby
Expect the Bank of Japan to enter the chase to the bottom. While it’s already at zero, the economy left 2019 contracting an annualized 6.3% in the fourth quarter. That was well before Japan had a single coronavirus case. That sharp downshift also happened before questions arose about the fate of the Tokyo Olympics set to begin in July – and prior to Trump’s weighing a ban on travel from Japan.
The Bank of Korea is sure to join the fray. Korea, after all, has the most Covid-19 cases outside China – 5,621 and counting. And beginning in late February, the BOK began telegraphing a contraction in gross domestic product this quarter. On Wednesday, the government unveiled a $9.8 billion stimulus plan.
Also Wednesday, BOK Governor Lee Ju-yeol – who had held off on an expected rate cut in February – strongly hinted at action in short order. “There’s a need,” Lee says, “to adequately consider such a change in the policy environment when operating the country’s monetary policy in the future.”
The People’s Bank of China will likely be hitting the monetary accelerator, too, as manufacturing screeches to a clunking halt. The Purchasing Managers’ Index plunged to 35.7 in February from 50 in January – the biggest plummet on record. The Caixin/Markit Services Purchasing Managers’ Index, meantime, slid to 26.5 in February from 51.8 in January.
S&P Global Ratings now reckons China will grow 5% this year, markedly below 2019’s 6.1%, which was already the slowest since 1990. The knock-on effects for Japan, Korea, Singapore and other open economies are growing in sync with the headwinds bearing down on (and from) China.
The leeway the Fed just afforded Asia by cutting rates to 1-1.25% is partly technical, partly psychological. Having a currency pegged to the US dollar, Hong Kong was forced to adjust its rate structure in kind. After 125 basis points of Fed easing in just seven months, though, Asian officials need to ensure that interest-rate differentials don’t get out of whack.
There’s also utility in appearing not just responsive to threats but proactive. Herein lies Governor Haruhiko Kuroda’s plight in Tokyo.
No major monetary authority has been more aggressive in adding liquidity. Since 2013, the BOJ hoarded half of all outstanding government securities and cornered exchange-traded funds, holding at least $260 billion worth of the ETFs by the end of 2019.
What’s more, the BOJ’s balance sheet is bigger than the nation’s annual $5 trillion of GDP. And yet the BOJ is a long way off from the 2% inflation target. In December, for example, Japan’s inflation rate was effectively zero.
Understandably, Kuroda & Co. are reluctant to step further into the monetary unknown. By not doing more, though, the BOJ risks damaging the confidence its policies generated. At the very least, Kuroda’s team should be injecting increased liquidity into markets and doing so with a bang.
Here, the BOJ is imparting lessons for peers around the region. In a world of zero rates, central banks face a “pushing on a string” problem. The multiplier effect from stimuli is dwindling. Yet the “ring the gong” effect in today’s environment may be far more important.
And even better if policymakers do so in unison.
The Fed’s rate surprise didn’t excite markets as hoped. The move came after a conference call of Group of Seven nations, which fueled speculation there might be synchronized action. That partly explained why the Dow Jones Industrial Average fell 2.94% Tuesday despite the Fed’s boldest move since 2008.
Asia should consider forging its own coordinated response to the risks flying its way in 2020.
Even before a respiratory illness emanated from Wuhan, Trump’s trade war was slamming household demand and business confidence. Now the coronavirus is upending supply chains, devastating tourism and slamming industries from aviation to retail to agriculture to entertainment.
At the very least, central bankers from Tokyo, Beijing, Seoul, Singapore elsewhere around the region should arrange conference calls to share intelligence and brainstorm. As the Fed reminded us this week, joint action is what really sways market confidence in these chaotic times, not a bilateral one-off step. Even the odd joint statement communicating “we got this” would calm nerves in trading pits and boardrooms.
One reason: Asia is more vulnerable to a China-drive slowdown than Trump’s America.
“US corporate earnings will take a hit from overseas disruptions and likely from domestic disruptions too,” says analyst Will Denyer of Gavekal Research. “The resulting degree of damage to cash flows is arguably today’s biggest known unknown. But there are reasons to believe that the effect on corporates in the US will not be as bad as in most other countries, and not nearly as bad as in China.”
For all Trump’s histrionics, the US has the developed world’s lowest exposure to trade, roughly 20% of GDP. American-listed multinationals are heavily exposed. But about two-thirds of S&P 500 sales are domestic and roughly 4% are in China.
“Some companies will be affected more than others,” Denyer says, “but the US economy and the US equity market as a whole have limited exposure to China, where the greatest disruptions have been.”
Asia’s reality is a mirror image of the economy over which Powell presides. That goes, too, for nations thought to be more insulated from China’s zigs and zags.
The Philippine central bank cut rates on Feb. 6. But with growth the slowest in eight years and remittance inflows from abroad under threat, expect more action from Bangko Sentral ng Pilipinas. It still has 375 basis points worth of firepower.
Bank Indonesia still has 475 basis points worth of ammunition. It eased 25 basis points on Feb. 20 citing coronavirus risks. Even before the virus hit global headlines, though, Southeast Asia’s biggest economy was growing just 5%, well below the 7% that President Joko Widodo promised to deliver since 2014.
Central banks need to strike a careful balance. While supporting growth, they need to take care not to go too far, lest they lose credibility.
This risk may also explain why the Fed’s bold rate cut fell flat with markets. Given Trump’s aggressive attacks on the Fed – and almost daily broadsides on Twitter – traders have reason to wonder if Powell is caving to the White House.
Either way, chatter that the Fed will ease at least once more in 2020 opens a lane for Asian policymakers to add liquidity without the usual side effects.
Let the race to the bottom commence …