Part 1: Recent Economic and Financial Developments

Monetary Policy Report submitted to the Congress on June 12, 2020, pursuant to section 2B of the Federal Reserve Act

Domestic Developments

The COVID-19 outbreak has led to an acute weakening in the labor market since February

In response to the public health crisis caused by the spread of COVID-19, households, businesses, and governments took dramatic measures to slow the spread of the virus. As a result, many sectors of the economy were effectively closed from mid-March through April but have seen some gradual lifting of restrictions since then. The severity, scope, and speed of the ensuing downturn in economic activity have been significantly worse than any recession since World War II. After posting strong gains in both January and February, payroll employment plummeted by an unprecedented 22 million in March and April before adding back 2.5 million jobs in May (figure 1). The unemployment rate jumped to 14.7 percent in April, the highest level since the Great Depression. In May, the unemployment rate fell to 13.3 percent, which was almost 10 percentage points above the February level (figure 2). Although unemployment soared for all major racial and ethnic groups, the unemployment rate for Hispanics posted the largest increase over this period (figure 3). (For more discussion of the pandemic's effects on the labor market, see the box "Disparities in Job Loss during the Pandemic.")

Data received since the survey week for payroll employment in May suggest that job gains have continued.2 Although initial claims for unemployment insurance have remained high, it is unclear whether these new claims reflect additional large numbers of layoffs or that states are clearing their backlogs of applications. In addition, weekly employment data from the payroll processor ADP indicate that rehiring has continued and that payroll employment will likely move up again in June, albeit from what remains a very low level.

The labor force participation rate (LFPR)—the share of the population that is either working or actively looking for work—fell from around 63-1/2 percent early this year to 60.8 percent in May (figure 4). The May LFPR reading was one of the lowest since the early 1970s.3 Poor employment prospects or concerns about safety in the workplace might have caused some of the newly unemployed to exit the labor force or induced others to refrain from entering.4 However, with so much of the labor market shut in and most new hiring at a standstill, the distinction between being unemployed and out of the labor force likely has become especially blurred. The employment-to-population ratio for individuals 16 and over—the share of that segment of the population who are working—combines movements in both unemployment and labor force participation. This measure was 51.3 percent in April and 52.8 percent in May, the lowest readings in the history of this series, which began in 1948.

Disparities in Job Loss during the Pandemic

For nearly all industries, occupations, demographic groups, and locations, employment was substantially lower in May than in February. While job loss has been pervasive, some groups have experienced more severe employment declines than others, particularly workers with lower earnings and the socioeconomic groups that are disproportionately represented among low-wage jobs; employment declines have also been larger in some states than in others. Although disparities in labor market outcomes across groups often widen during recessions, certain factors unique to this episode—in particular, the social-distancing measures taken by households, businesses, and governments to limit in-person interactions—have contributed to the recent divergence.

Because jobs differ in the degree to which they involve personal contact and physical proximity, in whether they provide an "essential function," and in whether their business operations can be conducted remotely, social-distancing measures have had disparate consequences across industries and, in turn, on particular types of workers who tend to work in heavily affected industries. For example, the net proportion of jobs lost since February has been greater in industries such as accommodation and food services (where social-distancing regulations have severely affected many businesses and where workers are frequently unable to work from home) and smaller in industries such as professional and business services and financial activities (where workers may be less affected by social distancing and are generally more able to conduct work from home).1 In keeping with this pattern, states that rely heavily on tourism—such as Hawaii and Nevada—saw exceptionally large increases in unemployment through April (the most recent month for which state unemployment rate data are available).

Net job loss since February thus far has been concentrated in lower-wage industries, suggesting that employment declines have been disproportionately large among lower-paid workers who may be less able to financially weather an extended period of unemployment. Indeed, estimates of employment declines based on a worker's previous wage (using data from the payroll provider ADP), shown in figure A, also indicate this disproportionate pattern of job loss. From February to mid-April, employment fell substantially more for workers who were previously earning wages in the bottom fourth of wage earners, compared with other workers. Despite somewhat more rapid job growth for lower-wage earners in subsequent weeks, employment for lower-wage earners remains roughly 35 percent lower than in February, compared with 5 to 15 percent lower employment for higher-wage earners. These differences are also consistent with results from a recent survey conducted by the Federal Reserve Board that indicated that among households with an annual income of $40,000 or less, nearly 40 percent of individuals who were employed in February experienced job loss in March or early April, compared with 20 percent of the population overall.2

Figure B illustrates that the decline in employment (as a fraction of the population) has also been especially large for people aged 16 to 24 compared with older workers, for people without a bachelor's degree compared with those with at least a bachelor's degree, and for Hispanics compared with other races and ethnicities. In addition, employment rates have dropped somewhat more for women than for men, and for Asians and African Americans compared with whites. In general, the groups with the larger employment declines are most commonly employed in the industries that have experienced the greatest net employment declines thus far, such as accommodation, food service, and retail trade; these demographic groups are also less likely to report being able to work from home.

In the months ahead, labor market prospects for the unemployed and underemployed—both overall and for particularly hard-hit groups of workers—will largely depend on the course of the COVID-19 outbreak itself and on actions taken to halt its spread. Recent job losses differ from those of previous recessions not only in the suddenness and severity with which they occurred, but also in the unusually high share of workers who expect them to be temporary.3 Research has shown that workers who return to their previous employers after a temporary layoff tend to earn wages similar to what they were making previously, whereas laid-off workers who do not return to their previous employer experience a longer-lasting decline in earnings.4 If public health conditions improve quickly so that social-distancing measures can be further relaxed and consumers become more willing to engage in a wider range of commercial activities, workers' expectations of being recalled may prove true, and many recent job losses may turn out to be temporary layoffs from which workers can quickly recover. However, if economic activity remains weak for a prolonged period, businesses that had intended to reopen at full capacity may instead be compelled to shutter completely or to resume operations at a diminished scale, turning many temporary layoffs into permanent job losses. Perhaps reflecting this possibility , the number of unemployed workers reporting that they had permanently separated from their previous employer rose by roughly 300,000 between April and May, even as the total number of unemployed persons began to decline. As lower-paid workers are disproportionately employed by small businesses—which typically have fewer financial resources than larger firms—they may be at heightened risk of seeing their former employers shut down and hence experiencing the scarring effects of permanent separations.5

1. In May, employment in the accommodation and food service industry was 40 percent lower than in February. By contrast, employment in professional and business services was around 10 percent lower than in February, and employment in financial activities was 3 percent lower. Responses to a 2017–18 survey by the U.S. Census Bureau indicated that less than 20 percent of workers in accommodation and food service reported being able to work from home, compared with more than 50 percent in professional and business services and financial activities. See Bureau of Labor Statistics (2019), "Job Flexibilities and Work Schedules—2017–2018 Data from the American Time Use Survey," press release, September 24, Return to text

2. See Board of Governors of the Federal Reserve System (2020), Report on the Economic Well-Being of U.S. Households in 2019, Featuring Supplemental Data from April 2020 (Washington: Board of Governors, May) Return to text

3. Among unemployed job losers surveyed in the Current Population Survey, fully 90 percent of those surveyed in mid-April reported that they expected to be recalled by their previous employer. This proportion declined slightly to 87 percent among those surveyed in mid-May. In addition, the Federal Reserve Board's recent survey of U.S. households reports that around 90 percent of individuals who experienced job loss in March or early April said that their employer indicated that they would return to their job at some point; see Board of Governors, Report on the Economic Well-Being of U.S. Households in 2019, in box note 2. By comparison, the share of job losers who expected to be recalled by their previous employer never exceeded 50 percent at any point during the Great Recession. Return to text

4. See Louis S. Jacobson, Robert J. LaLonde, and Daniel G. Sullivan (1993), "Earnings Losses of Displaced Workers," American Economic Review, vol. 83 (September), pp. 685–709; Shigeru Fujita and Giuseppe Moscarini (2017), "Recall and Unemployment," American Economic Review, vol. 107 (December), pp. 3875–916; and Marta Lachowska, Alexandre Mas, and Stephen A. Woodbury (forthcoming), "Sources of Displaced Workers' Long-Term Earnings Losses," American Economic Review. Return to text

5. See Gregory Acs and Austin Nichols (2007), "Low-Income Workers and Their Employers: Characteristics and Challenges," paper presented at "Public and Private Roles in the Workplace: What Are the Next Steps in Supporting Working Families?" a roundtable held at the Urban Institute, Washington, May 23,; and Nicholas Bloom, Fatih Guvenen, Benjamin S. Smith, Jae Song, and Till von Wachter (2018), "The Disappearing Large-Firm Wage Premium," American Economic Review Papers and Proceedings, vol. 108 (May), pp. 317–22. Return to text

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Wages are likely being held down, although compositional shifts have temporarily boosted some wage measures

While reliable data are limited, anecdotal evidence suggests that the economic downturn is putting downward pressure on wages. The series on wage growth computed by the Federal Reserve Bank of Atlanta, which tracks the median 12-month wage growth of individuals reporting to the Current Population Survey, has changed little in recent months (figure 5).5 In contrast, measures that look at average wage costs have jumped because of compositional effects, as COVID-19 mitigation efforts and weaker demand have disproportionately affected lower-wage workers and left relatively more higher-wage workers on payrolls. Indeed, average hourly earnings from the payroll survey jumped 6.7 percent over the 12 months ending in May, largely reflecting this change in the composition of private payrolls. In the first quarter, both the employment cost index (ECI) and compensation per hour, which include both wages and benefits, posted moderate gains, with neither series reflecting much of the pandemic's repercussions.6

Price inflation has moved significantly lower

As measured by the 12-month change in the price index for personal consumption expenditures (PCE), inflation was just 0.5 percent in April, compared with 1.6 percent over the same period a year ago (figure 6). The abrupt slowing in total PCE price inflation this year partly reflects sharp declines in consumer energy prices that resulted from the collapse in oil prices. In contrast, food prices have moved higher despite declines in food commodity prices, likely reflecting higher demand at retail grocery stores in combination with pandemic-related supply chain issues. In addition to the drop in energy prices, the unprecedented reductions in demand for some services as a result of social distancing have led to sharp drops in prices for airfares and lodging away from home. These price declines led the 12-month measure of core PCE inflation—that is, inflation excluding volatile consumer food and energy prices—to move significantly lower, falling from 1.8 percent in February to just 1.0 percent in April, as the monthly readings for March and April were exceptionally low. An appreciation of the dollar has also contributed to the slowing in core inflation.

The trimmed mean measure of PCE price inflation constructed by the Federal Reserve Bank of Dallas provides an alternative way to purge measured inflation of transitory influences, and it is less sensitive than the core measure to extreme price movements such as the recent outsized swings in airfares and lodging.7 The 12-month change in this measure edged down to 1.9 percent in April from 2.1 percent in February.

Oil prices are notably lower this spring

Against the backdrop of a global collapse in the demand for oil and a rapid increase in oil inventories, the Brent price of crude oil plunged from about $65 per barrel in early January to around $20 per barrel at the end of April (figure 7).8 More recently, prices have rebounded to about $40 per barrel, as an agreement between OPEC (Organization of the Petroleum Exporting Countries) and Russia to cut oil production by nearly 10 percent of global output appears to have taken effect. Additionally, the dramatic downturn in global oil demand appears to be abating as countries begin to ease their COVID-19 lockdown policies. The decline in oil prices has contributed to similar movements in retail gasoline prices, which have also fallen in recent months.

Reported prices of imports other than energy fell

After rising early this year, nonfuel import prices fell in April, as the dollar appreciated and the sharp decline in global demand put downward pressure on non-oil commodity prices—a substantial component of nonfuel import prices (figure 8). Prices of industrial metals fell sharply in the first months of the year but edged up in May, as economic activity in some economies began to revive.

However, survey-based measures of long-run inflation expectations have been broadly stable...

Despite the tumultuous situation of recent months, survey-based measures of inflation expectations at medium- and longer-term horizons, which likely influence actual inflation by affecting wage- and price-setting decisions, so far have changed little (figure 9). In the University of Michigan Surveys of Consumers, the median value for inflation expectations over the next 5 to 10 years was 2.7 percent in May and has fluctuated around 2-1/2 percent since the end of 2016. In the Survey of Consumer Expectations, conducted by the Federal Reserve Bank of New York, the median of respondents' expected inflation rate three years ahead moved lower, on net, in the second half of last year and has averaged 2.5 percent since. In the Survey of Professional Forecasters, conducted by the Federal Reserve Bank of Philadelphia, the median expectation for the annual rate of increase in the PCE price index over the next 10 years edged down to 1.9 percent in the second-quarter survey, below the 2 percent level that had been reported for some time.

. . . but market-based measures of inflation compensation are notably lower

Market-based measures of inflation compensation can also be used to make inferences about inflation expectations. However, the inference is not straightforward because market-based measures can be importantly affected by changes in premiums that provide compensation for bearing inflation and liquidity risks. Measures of longer-term inflation compensation—derived either from differences between yields on nominal Treasury securities and those on comparable-maturity Treasury Inflation-Protected Securities (TIPS) or from inflation swaps—have decreased, on net, since the end of 2019 (figure 10). The 5-year and 5-to-10-year-forward measures of inflation compensation are about 60 basis points and 40 basis points lower, respectively, than at the beginning of the year.9 Both measures dropped sharply in March, with the 5-year measure reaching the lowest level since the Global Financial Crisis and the 5-to-10-year measure hitting new historical lows. These declines partly reflected a reduction in the relative liquidity of TIPS compared with nominal Treasury securities. As liquidity improved, inflation compensation partially retraced. The TIPS-based measure of 5-to-10-year-forward inflation compensation and the analogous measure from inflation swaps are now about 1-1/2 percent and 1-3/4 percent, respectively.10

Real gross domestic product has contracted severely and with unprecedented speed

After posting a moderate gain in 2019, real gross domestic product (GDP) fell at an annual rate of 5 percent in the first quarter, with that decline likely all occurring in the final weeks of the quarter (figure 11). In the second quarter, real GDP appears to be plummeting at a breathtaking pace. Indeed, many professional forecasters are projecting second-quarter real GDP to fall at an annual rate of 30 to 40 percent. This severe contraction reflects a steep drop in consumer spending associated with measures to contain the spreading virus. Uncertainty about the economic outlook also likely has pushed down business fixed investment, and events abroad have led to a steep drop in exports. In the manufacturing sector, output fell sharply in March and posted its largest decline on record in April as many factories closed temporarily for all or most of both months. This decrease in factory output included nearly all motor vehicle and civilian aircraft manufacturers. However, amid some easing of restrictions, there are signs that manufacturing activity moved up in May, partly as a result of the ramp-up in automotive production.

Social distancing has led to a dramatic plunge in household spending and earnings

After having increased at a solid 2.7 percent pace in 2019, real PCE fell at an annual rate of 6.8 percent in the first quarter of 2020, one of the largest quarterly drops in the history of this series (figure 12).11 As concerns about the virus outbreak grew and government restrictions mounted, real PCE collapsed, falling 6.7 percent in March and a record 13.2 percent in April. Although indicators point to an increase in May—which is consistent with some relaxation of government restrictions—taken together, the April data and May indicators point to an unprecedented decline in second-quarter consumer outlays. Real disposable personal income (DPI), a measure of households' after-tax purchasing power, fell in the first quarter, mostly because of a drop in household income from wages and salaries. However, in April, real DPI jumped 13-1/2 percent, pushing its April level up relative to the fourth quarter at an annual rate of more than 30 percent. Although aggregate earnings from employment collapsed in April, this income loss was more than offset by government income support from unemployment insurance and stimulus payments.12 With households unwilling or unable to spend a commensurate amount of their available aggregate income, the April saving rate shot up to 33 percent (figure 13).

Consumer sentiment has tumbled...

Households' concerns about their economic situation, as reflected in consumer sentiment, may be leading them to save more for precautionary reasons. The University of Michigan Surveys of Consumers index of consumer sentiment dropped almost 29 points between February and May (figure 14), with declines in both the current and expected conditions indexes. The Conference Board survey measure in May also was down sharply from February, with respondents similarly grim about current prospects but somewhat more upbeat than in the Michigan survey about future conditions.

. . . and overall household wealth fell in the first quarter

In the first quarter, the ratio of aggregate household net worth to household income fell, driven by sharp declines in equity prices (figure 15). House prices—which tend to respond to economic developments more slowly than equity prices and are of particular importance for the value of assets held by a large portion of households—continued to increase in the first quarter and moved up further in April (figure 16). Since March, equity prices have posted sizable gains but are still below their February peak.

Consumer lending standards have become less accommodative, but credit is still available to households with strong credit profiles

Since the onset of the pandemic, consumer lending standards have become less accommodative on balance. Borrowing conditions are tight for individuals with low credit ratings, but credit remains available to those with strong credit profiles. Nevertheless, consumer borrowing has fallen as spending has slumped (figure 17). While banks have tightened lending standards on credit card and auto loans, according to the April Senior Loan Officer Opinion Survey on Bank Lending Practices (SLOOS), captive auto lenders have rolled out generous loan incentives to boost sales.13 Due to the high cost of servicing loans in forbearance and uncertainty about whether borrowers will be able to resume making payments when the forbearance period ends, mortgages have become hard to obtain for borrowers with low credit scores or with incomes that are difficult to document. Credit conditions have also tightened significantly for other higher-risk loans, such as jumbo loans and cash-out refinances, and the increase in costs and risks associated with originating mortgages has raised primary mortgage rates relative to yields on mortgage-backed securities (MBS). Nevertheless, mortgage rates currently have fluctuated around the lowest levels seen in the past 10 years (figure 18).

Housing-sector activity has fallen sharply after starting the year on a solid footing...

After turning up starting around the middle of 2019 as mortgage rates moved lower, new home sales, existing home sales, and single-family starts and permits have posted outsized declines beginning in March that are all close to the largest ever recorded (figures 19 and 20). Similarly, the COVID-19 outbreak and mitigation efforts have caused households' perceptions of homebuying conditions and builders' ratings of current sales to move down despite historically low mortgage rates.

. . . and business fixed investment has tumbled...

The pandemic has curtailed business investment, as many investment projects were delayed or canceled because of lower profit expectations, concerns about future demand, reduced credit availability, and uncertainty about how businesses will operate in the future. Real business fixed investment—that is, private expenditures for equipment, structures, research and development (R&D), and other intellectual property—contracted at an annual rate of about 8.0 percent in the first quarter of 2020, coming off a drop of 0.4 percent for 2019 as a whole (figure 21). The decline was centered in equipment investment as well as in outlays for nonresidential buildings. In addition, lower oil prices contributed to a drop in investment in drilling and mining structures. Investment in intellectual property like software, R&D, and entertainment originals recorded a tepid increase in the first quarter after posting solid gains in 2019. Forward-looking indicators of business spending, such as new orders of nondefense capital goods, excluding the volatile aircraft category, have plunged recently amid sharply lower business sentiment and profit expectations from industry analysts.

. . . while corporate financing conditions have deteriorated

Financing conditions for nonfinancial firms were robust early in the year but tumbled during the global spread of COVID-19 (figure 22). The gross issuance of corporate bonds in the investment-grade segment was solid until late February, when it became intermittent at best as market functioning deteriorated. Meanwhile, issuance in the speculative-grade segment was essentially nonexistent following the broad risk-off sentiment in the market over the public health crisis. While investment-grade issuance recovered at a strong pace following the March Federal Reserve announcement on corporate credit funding facilities, high-yield issuance began to pick up only after the April announcement to expand the facilities to include support for some recent "fallen angels"—bonds downgraded to a speculative-grade credit rating from an investment-grade rating because of declining credit quality—and high-yield exchange-traded funds.14 The solvency outlook of corporate bonds for both the investment- and speculative-grade segments of the market dropped over the first half of the year as the pace of downgrades intensified and the volume of defaults picked up. Furthermore, the monthly volume of fallen angels reached a record high in March, and market analysts forecast this trend to continue with a record annual volume of debt being downgraded to high yield this year amid declining earnings and elevated leverage. Spreads on corporate bond yields over comparable-maturity Treasury securities have widened substantially amid worsening credit conditions. Institutional leveraged loan issuance volume was robust to start the first quarter, but it subsequently came to a standstill in March because of the pandemic. Newly launched volume increased somewhat starting in April but remains at subdued levels. Banks tightened standards and terms significantly on commercial and industrial (C&I) loans, according to respondents to the April SLOOS, and demand for C&I loans strengthened amid concerns about the pandemic. C&I loan growth at banks has picked up in the first half of the year, largely driven by soaring credit-line drawdowns since the beginning of March, as firms with existing credit lines sought to increase their internal cash buffers, and by lending to smaller businesses through the Paycheck Protection Program (PPP) since April.15

Both exports and imports declined sharply in the first quarter

The sudden drop in global demand and production and stifled global value chains took a toll on international trade. U.S. real exports of goods and services in the first quarter declined at an annual rate of nearly 9 percent, as exports of services—including travel to the United States—plunged (figure 23). Real imports fell just over 15 percent, as U.S. consumers and firms cut back on spending, travel abroad halted, and shipments of imported goods were delayed. The trade deficit, relative to GDP, narrowed in the first quarter compared with 2019 (figure 24).

Federal fiscal stimulus will provide substantial support to economic activity in 2020 while also significantly boosting the budget deficit and debt...

Federal fiscal policy measures enacted in response to the pandemic have provided income support for households and businesses; increased grants-in-aid to state and local governments; and facilitated loans to businesses, households, states, and localities. The Congressional Budget Office (CBO) projects that in fiscal year 2020, the additional federal government expenditures and foregone revenues from these policies will total more than $2 trillion, around 10 percent of nominal GDP.16 (For a more detailed discussion of these policies, see the box "Federal Fiscal Policy Response to COVID-19.") In addition, the decline in economic activity has pushed down tax collections while pushing up outlays for certain transfer programs—most notably for unemployment insurance and Medicaid (figure 25). These tax decreases and transfer increases, working in tandem with the discretionary stimulus, will support aggregate demand and help blunt the extent of the economic downturn.

The combination of the discretionary stimulus measures and the response of receipts and expenditures to the decline in economic activity—referred to as automatic stabilizers—are expected to cause the budget deficit to balloon from its already elevated level. The CBO expects the federal unified budget deficit to widen from 4-1/2 percent of nominal GDP in fiscal 2019 to 18 percent of nominal GDP in fiscal 2020, the largest annual deficit as a share of GDP in the post–World War II era.17 The ratio of federal debt held by the public to nominal GDP is expected to rise from 79 percent in fiscal 2019 to 101 percent by the end of fiscal 2020, the highest debt-to-GDP ratio since 1947 (figure 26).

Federal Fiscal Policy Response to COVID-19

In response to the immense health and economic consequences of the COVID-19 pandemic, federal lawmakers have enacted a variety of measures. These measures are expected to raise government outlays and reduce tax revenues—the sum of which we refer to as fiscal support—by nearly $2-1/2 trillion over 10 years, of which about $2 trillion is expected in the current fiscal year, according to the Congressional Budget Office (CBO) (figure A, row 5). The legislation also included $454 billion for the Department of the Treasury to fund lending facilities established by the Federal Reserve and $46 billion to provide loans to the airline industry.1 Consistent with the historically large economic consequences resulting from the COVID-19 pandemic, the amount of fiscal support that has been enacted constitutes the fastest and largest fiscal response to any postwar economic downturn.

A. Fiscal support in response to COVID-19, by legislation

(billions of dollars)

  Fiscal years
2020 2021 2020–2030
(1) Coronavirus Preparedness & Response Act 1 4 8
(2) Families First Coronavirus Response Act 134 57 192
(3) Coronavirus Aid, Relief, and Economic Security Act 1,606 448 1,721
(4) Paycheck Protection Program and Healthcare Enhancement Act 434 43 485
(5) Total 2,176 551 2,406

Note: The full title of the act in row 1 is Coronavirus Preparedness and ¬Response Supplemental Appropriations Act, 2020. Values are in billions of dollars. Funding for the Department of the Treasury to provide loans to the airline industry and to fund lending facilities established by the Federal Reserve are not included. Fiscal support is smaller over the 2020–30 period than over the 2020–21 period mainly because of the payment of deferred payroll tax liabilities.

Source: Congressional Budget Office.

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Figure B breaks down the estimated fiscal support for fiscal year 2020 (figure A, column 1) into four broad categories: (1) direct aid to households, (2) loans or grants to small businesses, (3) other aid to businesses, and (4) government purchases of goods and services or grants to state and local governments.

The rest of this discussion provides a brief overview of the main components of the four stimulus bills, focusing on the CBO's estimate of fiscal support (increased outlays minus reduced tax revenues) for fiscal 2020, organized by the four categories assigned in the figure.

Direct Aid to Households: $740 billion

The largest component of income support is roughly $290 billion in one-time payments to households. These stimulus checks provide households with a one-time refundable tax credit of $1,200 per adult and $500 per child 16 and under, with a phaseout at incomes between $75,000 and $100,000 for individuals and between $150,000 and $200,000 for couples. By the end of May, according to the Treasury Department, nearly all of the stimulus checks had been disbursed. The second major piece of household income support is $230 billion in expanded unemployment insurance (UI) benefits. UI benefits were increased by $600 per week through the end of July; eligibility was expanded through December for "gig" workers, the self-employed, and those who are unable to work as a result of the COVID-19 outbreak; and benefit durations were extended by 13 weeks through December. According to the CBO, around $70 billion in the more generous weekly benefits had been paid through the end of May. The legislation also provides student loan and mortgage relief, suspending loan payments and interest accrual on federal student loans until the end of September and reducing or suspending mortgage payments for mortgages backed by government-sponsored enterprises.2 Another component of the legislation provides federally mandated paid sick leave for workers at employers with fewer than 500 employees. The cost of the sick leave is rebated to employers through refundable payroll tax credits, which are expected to total about $90 billion in fiscal 2020. Employees are entitled to up to two weeks of paid leave equal to normal earnings for employees or family members who are directly affected by COVID-19 or COVID-19-related closures; additionally, employees are entitled to 10 weeks of paid leave at two-thirds normal pay for those caring for a child whose school or daycare is closed. In addition, about $90 billion in tax relief was provided to households in fiscal 2020, primarily through expanding the deductibility of certain business losses from individual tax liabilities.

Loans and Grants to Small Businesses: $760 billion

The Paycheck Protection Program provides about $670 billion in support to businesses with fewer than 500 employees through loans of up to 250 percent of monthly payroll costs before the crisis (subject to a cap of $10 million). These loans will be forgiven if employment and compensation are maintained relative to a pre-crisis level. In addition, small businesses are supported by about $90 billion in Small Business Administration (SBA) Economic Injury Disaster Loans and by six-month loan payment deferrals for new and existing SBA borrowers.

Other Aid to Businesses: $420 billion

Businesses are aided by several provisions that reduce tax revenues in fiscal 2020, with the largest reduction coming from delayed payment of employer-side payroll taxes until 2021 and 2022, which is expected to reduce tax payments by $210 billion in fiscal 2020 but mostly be made up in subsequent years. An additional roughly $90 billion reduction in fiscal 2020 tax liability results from modifications of the treatment of net operating losses and interest expenses for corporations. The legislation also provides nearly $50 billion in payroll tax relief for businesses significantly affected by COVID-19 shutdowns in order to retain employees. Aside from tax relief, about $20 billion in loans and grants are expected to go to passenger and cargo air carriers and related contractors to support payroll expenses for aviation workers affected by the pandemic. In addition, about $50 billion in funds are expected to go to hospitals to support health-care-related expenses or provide relief for lost revenues. Finally, while they do not show up in the CBO's estimates of fiscal support, the legislation provided up to $454 billion for the Treasury Department to fund lending facilities established by the Federal Reserve to offer loans to businesses as well as state and local governments and provided up to $46 billion to offer loans to the airline industry.

Direct Government Purchases and Aid to State and Local Governments: $260 billion

The largest part of this aid category consists of about $150 billion in relief funding to state and local governments for expenses related to dealing with the COVID-19 pandemic. State governments will also receive an extra $30 billion through a temporary increase in the share of Medicaid expenditures that the federal government covers. In addition, the Federal Emergency Management Agency is expected to spend $50 billion in disaster relief funds to provide assistance to individuals and organizations affected by the COVID-19 crisis.

1. The CBO estimates that the amounts committed will significantly increase total lending by the Treasury Department and the Federal Reserve. However, the CBO does not expect the lending will result in budgetary outlays as calculated on a net present value basis, and so it is not included in our measure of fiscal support. Return to text

2. The CBO did not provide an explicit estimate of the mortgage relief provisions, and their effects are not included in the $740 billion total because they were partially implemented by the various agencies involved before the passage of the CARES Act. Return to text

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. . . and state and local governments confront a fiscal crisis as tax revenue shrinks

A sharp reduction in tax revenues due to a collapse in income and retail sales tax revenue is placing significant stress on state governments. Local governments, which rely on more cyclically stable property taxes, will be somewhat less directly affected. Nevertheless, local governments rely on aid from their state governments, particularly for primary and secondary education, and the budget strains at the state level will therefore likely be passed down to localities. In April and May, state and local governments shed more than 1-1/2 million jobs as schools and universities closed early and local governments reduced their noneducation workforce. These state and local budget strains will be partially offset by grants from the federal government. (See the box "Federal Fiscal Policy Response to COVID-19" for further details.)

Risks to the outlook are greater than usual

The path ahead is extraordinarily uncertain. First and foremost, the pace of recovery will ultimately depend on the evolution of the COVID-19 outbreak in the United States and abroad and the measures undertaken to contain it. Importantly, some small businesses and highly leveraged firms might have to shut down permanently or declare bankruptcy, which could have longer-lasting repercussions on productive capacity. (For a more in-depth discussion of the potential consequences of the shutdowns on small businesses, see the box "Small Businesses during the COVID-19 Crisis.") In addition, there is uncertainty about future labor demand and productivity as firms shift their production processes to increase worker safety, realign their supply chains, or move services online. Furthermore, if employees are not called back to their former jobs, their period of unemployment could increase, potentially leading to lower wages when they do eventually find a job. Finally, applications for employer identification numbers, which are an early indicator of new business formations, are tracking well below levels from recent years and may suggest a slower pace of future job creation through this channel.

Small Businesses during the COVID-19 Crisis

Small businesses employ nearly half of U.S. private-sector workers, play key roles in local communities, and provide income to millions of business owners. The COVID-19 pandemic poses acute risks to the survival of many small businesses. Widespread failure of small businesses would create economic insecurity for millions of workers and business owners, slow down the economic recovery, and alter the economic landscape of local communities. The Congress, the Federal Reserve, and other federal agencies are making aggressive efforts to support small businesses.

More than 99 percent of U.S. firms have fewer than 500 employees, and almost 90 percent have fewer than 20 employees. Altogether, businesses with fewer than 500 employees account for almost half of private-sector jobs.1 Small businesses and small nonprofit organizations are particularly prevalent in service industries and include examples such as car dealers, restaurants, barber shops, medical offices, legal offices, home repair contractors, and religious organizations. These businesses and organizations are part of the economic and social landscape of local communities and neighborhoods. Small businesses are also prevalent in manufacturing supply chain industries.2 Moreover, the businesses that spur innovation, contribute to nationwide job and productivity growth, and turn into large household names typically start out as small businesses.3

Small businesses are particularly vulnerable to social distancing for two main reasons. First, small businesses are prevalent in sectors that have seen especially large declines in revenue due to social distancing; small businesses make up about 60 percent of employment in the "leisure and hospitality" sector and about 85 percent of employment in the "other services" sector (which includes assorted neighborhood fixtures like churches and beauty salons). Second, small firms tend to be more financially constrained than larger firms. For example, bank account data suggest that roughly half of small businesses entered the COVID-19 crisis with cash reserves sufficient for fewer than 15 days of operations without revenue.4 Moreover, even under normal circumstances, many small firms face financial challenges and lack access to liquid financial markets, relying instead on bank loans, credit cards, and the personal resources of owners.5

A wide variety of data reveal an alarming picture of small business health during the COVID-19 crisis. Surveys of small businesses suggest that pessimism about business viability is prevalent.6 The majority of small businesses have seen revenue losses, and half of small businesses do not expect to return to their usual level of operations within the next six months.7

Employment declines have been deeper among small businesses than among larger businesses (figure A).8 Moreover, the share of total job losses accounted for by small businesses stopping paycheck issuance entirely (that is, going inactive) is substantial (light blue areas in figure A). Data from Homebase, a provider of scheduling and time sheet services for small local businesses, show that between 30 and 40 percent of establishments in sectors deeply affected by social distancing have gone inactive since February 15.9 Data from Womply, a provider of credit card transaction processing services, suggest that spending at small restaurants was down 80 percent (versus a year earlier) by early April and was still down 50 percent in early June.10 Taken together, these data suggest considerable risk of failure for a large number of small businesses.

The inflow of new businesses (which are typically small businesses) also plummeted, as shown in figure B. The Census Bureau reports that, in late March, applications for new employer business tax identifiers were down more than 40 percent relative to a year earlier; the series has only gradually recovered and was still just below last year's pace as of late May. Business entry is a key contributor to job creation; with business exits and associated job destruction likely to be elevated during the COVID-19 episode, new firm creation is even more important than usual.11

The Congress, the Federal Reserve, and other federal agencies have acted swiftly to help address the risk of widespread small business failure. As part of the CARES Act (Coronavirus Aid, Relief, and Economic Security Act), the Congress created the Paycheck Protection Program (PPP) to provide small businesses with funds to retain employees for roughly two months. The Federal Reserve is bolstering the effectiveness of the PPP through the Paycheck Protection Program Liquidity Facility, which extends credit to eligible financial institutions to finance PPP loans. About three-fourths of small businesses with employees have applied for PPP assistance, suggesting the program is extremely valuable and timely, and a large share of these applications have been approved; however, some industries may face an ongoing need after the program expires.12

The Federal Reserve is also supporting lending to small businesses through the Term Asset-Backed Securities Loan Facility, which lends to holders of, among others, securities backed by loans guaranteed by the Small Business Administration. In addition, the Federal Reserve has established the Main Street Lending Program (MSLP), which features a range of facilities designed to provide support to small and medium-sized firms.13

Small businesses make vital contributions to labor markets and their local communities, and a critical subset of small businesses are young, innovative firms with the potential to create many jobs and increase overall productivity. The nature of the economic recovery that follows the COVID 19 crisis will depend in part on the survival of small businesses. Small business failures not only destroy jobs, but also erase the productive knowledge within the firms, deplete the assets of business owners, alter the character of communities and neighborhoods, and, in some cases, deprive the country of innovations. The Federal Reserve will continue to monitor the conditions of small businesses and support this fundamental segment of the economy.

1. See U.S. Census Bureau (2020), 2017 SUSB Annual Data Tables by Establishment Industry, The data in this discussion refer to "employer" businesses—the roughly six million businesses with formal employees. There are also roughly 26 million "nonemployer" businesses in the United States, such as freelance consultants or ride-sharing drivers. Return to text

2. For example, small businesses constitute at least 80 percent of employment in machine shops; precision turned product manufacturing; miscellaneous fabricated metal product manufacturing; commercial screen printing; and electroplating, plating, polishing, anodizing, and coloring. Return to text

3. See Ryan Decker, John Haltiwanger, Ron Jarmin, and Javier Miranda (2014), "The Role of Entrepreneurship in U.S. Job Creation and Economic Dynamism," Journal of Economic Perspectives, vol. 28 (Summer), pp. 3–24. Return to text

4. See JPMorgan Chase & Co. Institute (2019), Place Matters: Small Business Financial Health in Urban Communities (New York: JPMorgan Chase & Co., September), Return to text

5. See Federal Reserve System (2019), Small Business Credit Survey: 2019 Report on Employer Firms (New York: Federal Reserve Bank of New York),; and Michael Siemer (2019), "Employment Effects of Financial Constraints during the Great Recession," Review of Economics and Statistics, vol. 101 (March), pp. 16–29. Return to text

6. See John Eric Humphries, Christopher Neilson, and Gabriel Ulyssea (2020), "The Evolving Impacts of COVID-19 on Small Businesses since the CARES Act," Cowles Foundation Discussion Paper 2230 (New Haven, Conn.: Cowles Foundation for Research in Economics, April),; and MetLife and U.S. Chamber of Commerce (2020), Special Report on Coronavirus and Small Business (Washington: Chamber of Commerce, April 3), Return to text

7. Data are from the U.S. Census Bureau's Small Business Pulse Survey for the week ending May 30, 2020. Survey results are available at Return to text

8. Figure A reports results from staff calculations on administrative payroll data from ADP; see Tomaz Cajner, Leland Crane, Ryan Decker, John Grigsby, Adrian Hamins-Puertolas, Erik Hurst, Christopher Kurz, and Ahu Yildirmaz (2020), "The U.S. Labor Market during the Beginning of the Pandemic Recession," NBER Working Paper Series 27159 (Cambridge, Mass.: National Bureau of Economic Research, May), Return to text

9. Homebase data initially included about 60,000 active businesses. Business inactivity is defined as zero hours worked during the week ending May 30 in the leisure and hospitality and the other services sectors. More information is available on the Homebase website at Return to text

10. For additional details, see Womply (2020), "Data Dashboard: How Coronavirus/COVID-19 Is Impacting Local Business Revenue across the U.S.," Womply Blog, May 28, Return to text

11. Research suggests that a drop in new business formation and the resulting "lost generation" of firms during the Great Recession contributed to a slow recovery in output and employment. See, for example, Petr Sedláček (2020), "Lost Generations of Firms and Aggregate Labor Market Dynamics," Journal of Monetary Economics, vol. 111 (May), pp. 16–31. Return to text

12. Data are from the U.S. Census Bureau's Small Business Pulse Survey; see box note 7. Return to text

13. A current description of the MSLP is available on the Board's website at Return to text

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Financial Developments

The expected path of the federal funds rate over the next several years has fallen to near zero

The expected path of the federal funds rate over the next several years has declined since early January and is now flat at the effective lower bound for the next few years (figure 27). Before the Federal Reserve lowered the target range for the federal funds rate to 0 to 1/4 percent in March, policy expectations dropped substantially in late February and early March as COVID-19 concerns intensified. Market-based measures suggest that the expected federal funds rate remains below 0.25 percent through mid-2023.18 Survey-based measures of the expected path of the policy rate also moved down from the levels observed at the end of 2019. According to the results of the Survey of Primary Dealers and Survey of Market Participants, both conducted by the Federal Reserve Bank of New York in April, the median of respondents' modal projections implies a flat trajectory for the target range of the federal funds rate at the effective lower bound for the next few years.19

The U.S. nominal Treasury yield curve has shifted down sharply...

After moving lower over the second half of 2019, nominal Treasury yields fell sharply in late February and early March as investors' concerns regarding the implications of the COVID-19 outbreak for the economic outlook led to both falling policy expectations and flight-to-safety flows, with longer-term Treasury security yields dropping to historically low levels (figure 28). Longer-term yields increased moderately and realized volatility spiked for a period in March as selling pressures grew, leading to dealer balance sheet capacity constraints and impaired trading conditions, before falling back again after the Federal Reserve's actions helped restore smooth market functioning. (See the box "Federal Reserve Actions to Ensure Smooth Functioning of Treasury and MBS Markets" in Part 2 for a more detailed description of the Treasury market during March.) More recently, yields on longer-term Treasury securities rose somewhat, linked at least partially to the expected increase in the issuance of longer-term Treasury securities as well as some improvement in investor sentiment. Options prices suggest that near-term uncertainty about longer-dated Treasury yields rose sharply in March to levels not seen since the Global Financial Crisis before retracing.

. . . but spreads of other long-term debt to Treasury securities rose

Yields on 30-year agency MBS—an important determinant of mortgage interest rates—decreased somewhat, on balance, though less than the yields on nominal Treasury securities, since the start of the year and remained very low by historical standards (figure 29).

Early in the year, yields on both investment- and speculative-grade corporate bonds as well as primary- and secondary-market municipal bonds were near record lows (figure 30). Spreads on corporate bond yields over comparable-maturity Treasury yields were in the lower end of their historical distribution. Since mid-February, corporate spreads have increased appreciably as market functioning deteriorated and credit quality declined. In March, spreads to comparable-maturity Treasury securities increased sharply for corporate debt but remained below those observed during the 2008 Global Financial Crisis. Spreads started to normalize following the Federal Reserve announcements of corporate bond facilities in late March, particularly for investment-grade corporate debt, but remain higher than at the end of 2019. Similarly, yields and spreads for municipal debt rose strikingly in March, with spreads to comparable-maturity Treasury securities spiking to their highest level since the Global Financial Crisis as market functioning declined and concerns about municipal credit quality arose. Yields on municipal debt partially recovered following Federal Reserve announcements in late March and April of support to municipal debt markets through liquidity facilities.

Liquidity in markets for Treasury securities and mortgage-backed securities deteriorated sharply before recovering following various Federal Reserve actions

A number of indicators of Treasury market functioning—including bid-ask spreads, bid sizes, estimates of transaction costs, and measures of market depth—deteriorated significantly in late February and March, but conditions improved considerably following Federal Reserve asset purchases and the creation of credit and liquidity facilities. (See the box "Federal Reserve Actions to Ensure Smooth Functioning of Treasury and MBS Markets" in Part 2.) Bid-ask spreads remain higher than those seen at the end of the year in the off-the-run market and for the 30-year bond in the on-the-run market, and market depth remains low. MBS spreads have fallen back markedly, but prepayment risk and uncertainty about forbearance continue to put upward pressure on spreads. Strains remain in some less liquid parts of the market.

Broad equity prices dropped notably amid the global spread of COVID-19 before rebounding

Equity prices continued to increase early in the year before tumbling in March, dropping as much as 34 percent from peak to trough. Prices have mostly recovered against a background of unprecedented, forceful, and rapid monetary and fiscal policy responses as well as recent tentative signs of economic revival associated with the easing of restrictions and in the face of bleak forecasts for U.S. firms' earnings in 2020 (figure 31). The decline in stock prices was widespread across all sectors, with the largest declines in the energy and banking sectors. Measures of implied and realized stock price volatility for the S&P 500 index—the VIX and the 20-day realized volatility—spiked to levels that were most recently observed during the financial crisis (figure 32). They have since retraced much of that increase but remain at elevated levels. (For a discussion of financial stability issues, see the box "Developments Related to Financial Stability.")

Developments Related to Financial Stability

The COVID-19 pandemic has abruptly halted large swaths of economic activity and led to swift financial repercussions. Despite increased resilience from the financial and regulatory reforms adopted since 2008, financial system vulnerabilities—most notably those associated with liquidity and maturity transformation in the nonbank financial sector—have amplified some of the economic effects of the pandemic. Accordingly, financial-sector vulnerabilities are expected to be significant in the near term. This discussion reviews vulnerabilities in the U.S. financial system at the onset of the pandemic and describes some of the extraordinary measures taken by the Federal Reserve to mitigate the brunt of the shock.

At the onset of the pandemic, asset valuation pressures in the United States were elevated. Spreads, risk premiums, and implied volatility were at the low ends of their historical distributions among several large asset categories, including domestic equities and corporate bonds. Beginning in late February, expectations for global economic growth plummeted and uncertainty increased sharply, driving down risky asset prices and putting downward pressure on Treasury yields. Equity prices plunged as concern over the COVID-19 outbreak grew and volatility surged to extreme levels. Trading conditions became impaired across several markets, posing significant challenges to price discovery and increasing trading costs. Yields on corporate bonds over comparable-maturity Treasury securities widened to the highest levels since the Global Financial Crisis (GFC). Leveraged loan spreads also widened, especially for lower-rated loans. Since late March, however, investors' tolerance for risk increased somewhat following interventions by the Federal Reserve; subsequently, risky asset prices partially retraced their course and market functioning improved. While the data on real estate prices mostly predate the COVID-19 outbreak, commercial real estate markets, in particular, had elevated valuation pressures at the beginning of 2020, making them vulnerable to significant price declines stemming from the unfolding effects of the pandemic.

On the eve of the pandemic, vulnerabilities associated with total private-sector debt stood at a moderate level relative to their historical norms. However, this assessment masks differences across the business and household sectors. Household borrowing advanced more slowly than overall economic activity and remained heavily concentrated among borrowers with high credit scores. By contrast, business debt levels were high relative to either business assets or gross domestic product, with the riskiest firms accounting for most of the increase in debt in recent years. Against this backdrop, the COVID-19 outbreak poses severe risks to businesses and millions of households. For businesses, as economic activity continues to contract, the related reduction in earnings and additional debt needed to bridge the downturn will increase the debt burden and default risk. For households, the sudden and outsized increase in unemployment and sharp decline in family incomes may give rise to widespread delinquencies and defaults.

In the financial sector, banks, as of the fourth quarter of 2019, were well capitalized relative to historical levels, in part due to the regulatory reforms enacted after the GFC. To date, banks have been able to meet surging demand for draws on credit lines while also building loan loss reserves to absorb higher expected defaults. Leverage at broker-dealers changed little in the second half of 2019 and remained at historically low levels. However, in March, constraints on dealers' intermediation capacity, including internal risk-management practices and regulatory constraints on the bank holding companies under which many dealers operate, were cited as possible reasons for deteriorating liquidity in even usually liquid markets. Leverage at life insurance companies has reached post-2008 highs. Moreover, the capitalization of the life insurance sector is likely to deteriorate in coming quarters because of lower-than-expected asset valuations and lower long-term interest rates. Some measures suggest that hedge fund leverage continued to expand through the end of 2019. Higher leverage left hedge funds vulnerable to asset price declines and to the increase in market volatility accompanying the COVID-19 shock. The subsequent deleveraging by hedge funds likely contributed to market dislocations in February and March.

Funding markets proved less fragile than during the 2007–09 episode in the face of the COVID-19 outbreak and the associated financial market turmoil. The subdued reliance of large bank holding companies on short-term funding and their robust holdings of high-quality liquid assets have prevented any considerable stress in the banking sector. Nonetheless, significant strains emerged and emergency Federal Reserve actions were required to stabilize short-term funding markets. Recent growth in prime money market mutual funds (MMFs) and large holdings of corporate debt by other mutual funds increased the vulnerabilities in the financial system. These vulnerabilities produced considerable strains in March as asset prices fell and investors became more risk averse. Prime MMFs and bond mutual funds experienced significant outflows in March, leading to severe strains in markets funded by these institutions—notably, commercial paper (CP) and corporate bond markets. The tensions began to ease only after the Federal Reserve took several actions targeted at these markets, as will be discussed.

The outlook for the pandemic and economic activity is uncertain. In the near term, risks associated with the course of COVID-19 and its effects on the U.S. and global economies remain high. In addition, there is potential for stresses to interact with preexisting vulnerabilities stemming from financial system or fiscal weaknesses in Europe, China, and emerging market economies. In turn, these risks have the potential to interact with the vulnerabilities identified in this discussion and produce additional strains for the U.S. financial system.

Facilities to Support the Economy since the COVID-19 Outbreak

The Federal Reserve, with the approval of the Secretary of the Treasury, established new credit and liquidity facilities under section 13(3) of the Federal Reserve Act to alleviate severe dislocations that arose in a number of financial markets and to support the flow of credit to households and businesses.1 These actions fall into two categories: stabilizing short-term funding markets and providing more direct support for the extension of credit across the economy.

As investors moved rapidly toward cash and the most liquid assets, an acute liquidity squeeze emerged in short-term funding markets in mid-March. In the CP market, funding dried up even for companies in good financial standing. At the same time, investors contributed to the stress by starting to pull away from some prime MMFs, which typically hold CP and other highly liquid, short-term debt instruments. In response, the Federal Reserve set up the Commercial Paper Funding Facility, for which the Treasury Department has provided $10 billion of credit protection. In addition, the Federal Reserve established the Money Market Mutual Fund Liquidity Facility (MMLF), for which the Treasury Department will provide up to $10 billion of credit protection. The Federal Reserve established a companion facility, the Primary Dealer Credit Facility, to provide loans against high-quality collateral to primary dealers that are critical intermediaries in short-term funding markets. The announcement of these facilities strongly affected the targeted markets. After an initial wave of borrowing from the facilities, market strains eased and the use of these facilities has abated.

To provide more direct support for credit across the economy, the Federal Reserve established a number of facilities in March and April. The Treasury's equity investments in many of these facilities were authorized by the CARES Act (Coronavirus Aid, Relief, and Economic Security Act). Together, these facilities will support the flow of up to $2.6 trillion of credit to large employers, small and medium-sized businesses, households, and state and local governments. The Primary Market Corporate Credit Facility (PMCCF) and the Secondary Market Corporate Credit Facility (SMCCF) were established to support employment and spending of large, investment-grade businesses. Following the announcement of the PMCCF and the SMCCF, spreads of both investment- and speculative-grade corporate bonds declined notably, and issuance of investment-grade corporate bonds strengthened. To support the longer-term, market-based financing that is critical to real economic activity, the Federal Reserve reestablished the Term Asset-Backed Securities Loan Facility to purchase securities backed by auto loans, equipment leases, credit card loans, and other lending. The Municipal Liquidity Facility was set up to help U.S. state and local governments manage cash flow pressures by providing credit secured through their short-term obligations. The Federal Reserve established the Main Street Lending Program to provide up to $600 billion in four-year loans for small and medium-sized businesses that were in good financial standing before the pandemic. Finally, the Paycheck Protection Program Liquidity Facility (PPPLF) was established to bolster the effectiveness of the Paycheck Protection Program (PPP) of the Small Business Administration. The CARES Act created the PPP program to provide loans that can help small businesses keep their workers on payrolls. The PPPLF extends credit to eligible financial institutions to finance PPP loans, taking the loans as collateral.

The Federal Reserve is deeply committed to transparency and recognizes that the need for transparency is heightened when it is called upon to use its emergency powers. Transparency helps promote the accountability of the Federal Reserve to the Congress and the public. Specifically, the Board of Governors will report substantial amounts of information on a monthly basis for the liquidity and lending facilities using CARES Act funding as well as for the PPPLF, including the names and details of participants in each facility; amounts borrowed and interest rate charged; and overall costs, revenues, and fees for each facility. For the few programs that are targeting financial market functioning, the Federal Reserve will provide a full accounting of transactions in these facilities. Real-time disclosure would risk stigmatizing participation in these facilities and undermining the Federal Reserve's ability to provide assurance that these systemically important markets will continue their critical function in times of severe market stress. The delay in disclosure will be no longer than necessary to ensure that participants do not hesitate to participate. While the facilities are operating, the Federal Reserve will disclose extensive and regular aggregate information on total borrowing, collateral and fees, and interest income.

Tools to Lessen Strains in Dollar Funding Markets

The Federal Reserve has taken actions to help maintain the flow of credit to U.S. households and businesses by reducing financial stresses abroad, which can spill over into U.S. credit markets. The Federal Reserve's dollar liquidity swap lines improve liquidity conditions in dollar funding markets in the United States and abroad by providing foreign central banks with the capacity to deliver U.S. dollar funding to institutions in their jurisdictions during times of market stress. These swap lines provide U.S. dollars to a foreign central bank in exchange for the equivalent amount of funds in that central bank's currency based on the market exchange rate at the time of the transaction. The Federal Reserve and each participating foreign central bank agree to swap back the same quantities of their two currencies at a specified date in the future. During the week of March 15, 2020, the network of swap lines was expanded and enhanced by adding additional central bank counterparties, lowering the price on the lines, and increasing the frequency and maturity of dollar operations.

In addition to the swap line enhancements, on March 31, the Federal Reserve announced a new program to support dollar funding markets, the temporary FIMA (Foreign and International Monetary Authorities) Repo Facility. This facility should help support the smooth functioning of the U.S. Treasury market by providing a temporary source of U.S. dollars to a broad range of countries, many of which do not have swap line arrangements with the Federal Reserve. Under this facility, FIMA account holders can enter into overnight repurchase agreements (repos) with the Federal Reserve, temporarily exchanging U.S. Treasury securities they hold at the Federal Reserve for U.S. dollars. The repos are overnight but can be rolled over as needed. The facility reduces the need for central banks to sell their Treasury securities outright, thus helping to avoid disruptions to the Treasury market and upward pressure on yields. Since its inception, take-up at the facility has been modest.

Regulatory and Supervisory Actions to Support the Economy since the COVID-19 Outbreak

The Federal Reserve has also made several adjustments to its regulatory and supervisory regime to facilitate market functioning and reduce regulatory impediments to banks supporting households, businesses, and municipal customers affected by COVID-19. These actions fall into the following four categories:

  1. acceleration of previously planned, permanent adjustments to certain regulatory requirements to address specific impediments to market functioning
  2. provision of additional time for banking organizations to phase in new regulatory requirements
  3. temporary relaxation of certain regulatory requirements or requirements imposing supervisory burden
  4. supervisory statements encouraging banks to support those affected by COVID-19

The first category includes changing the definition of eligible retained income to ensure capital and total loss-absorbing capacity buffers function as intended; allowing early adoption of a new method for certain banking organizations to measure counterparty credit risk derivatives contracts; reducing reserve requirement ratios to zero; and amending Regulation D (Reserve Requirements of Depository Institutions) to delete the six-per-month limit on convenience transfers from the "savings deposit" definition. The second category includes allowing certain banking organizations additional time to delay the effects of the Current Expected Credit Losses accounting standard in their regulatory capital and extending the initial compliance with the Single-Counterparty Credit Limit rule by 18 months. The third category includes excluding Treasury securities and reserves from the supplementary leverage ratio denominator; modifying the liquidity and capital rules to allow banking organizations to neutralize the regulatory effects of participating in the PPPLF and MMLF programs; introducing a change to support the favorable treatment of term primary credit loans from the discount window under the liquidity rules; providing temporary waivers to banks for limits on transactions with nonbank affiliates that offer credit and intermediation; temporarily lowering the community bank leverage ratio to 8 percent; giving banks flexibility in the timing of regulatory reports; and granting mortgage servicers flexibility to work with struggling consumers affected by COVID-19. Finally, the fourth category includes encouraging banks to use their capital and liquidity buffers to work constructively with borrowers and to make short-term loan modifications on a good faith basis, as well as encouraging lenders to offer responsible small-dollar loans to consumers and small businesses and to support low- and moderate-income borrowers through loans and banking fee waivers.

1. A list of funding, credit, liquidity, and loan facilities established by the Federal Reserve in response to COVID-19 is available on the Board's website at Return to text

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While overnight money market rates generally moved down in line with decreases in the Federal Open Market Committee's target range, short-term funding markets experienced strains before the announcement and launch of Federal Reserve facilities

Decreases in the Federal Open Market Committee's (FOMC) target range for the federal funds rate in March transmitted effectively through overnight money markets, with yields on a broad set of money market instruments moving lower in response to the FOMC's policy actions. Over the first half of the year, the effective federal funds rate (EFFR) remained within the target range (figure 33). After printing at the top of the target range for a few days following the March 15 rate cut, the EFFR softened considerably to trade near the bottom of the range amid substantial increases in reserves. Though upward pressures on interest rates in overnight money markets were generally well contained during March, short-term funding markets experienced a liquidity squeeze. Certain other short-term interest rates, including those pertaining to commercial paper and negotiable certificates of deposit, moved up markedly. However, since the announcement and launch of the Federal Reserve liquidity facilities directed toward these markets, short-term funding rates have declined significantly.

Bank credit continued to expand, while bank profitability declined

Aggregate credit provided by commercial banks trended up through the first half of 2020, driven largely by soaring C&I credit-line drawdowns since early March and by loans originated under the PPP since April (figure 34). While commercial real estate loan growth remained strong, growth in residential real estate loans on banks' balance sheets has slowed since the beginning of the year, and outstanding consumer loans contracted in April. First-quarter earnings reports of larger banks indicate that bank profitability declined considerably in the first quarter of 2020 because of narrower net interest margins and notable increases in loan loss provisions.20

International Developments

Economic activity abroad plunged in the first half of the year

The spread of COVID-19 throughout the world and the measures taken to contain it have produced devastating effects on the global economy. Many countries closed nonessential businesses and restricted people's movement during the first months of the year, leading to a sharp global economic contraction. Foreign GDP declined at about a 13 percent annualized rate in the first quarter, and recent indicators point to an even larger contraction in the second quarter (figure 35). Available data suggest that the decline in foreign activity in the first half of the year has been greater than during the Global Financial Crisis.

The collapse in economic activity across countries followed the progression of the virus. In China, where regions underwent strict lockdowns as early as January, GDP in the first quarter dropped at a stunning 36 percent annualized rate (figure 36). As the virus spread to Europe, many countries in the region imposed strict social-distancing restrictions; euro-area GDP contracted nearly 14 percent in the first quarter of 2020. The substantial decline in commodity prices also depressed activity of commodity exporters such as Canada and several Latin American countries. Recent data indicate that Chinese production began to revive in the spring, as infection rates fell and restrictions were gradually lifted (figure 37). Indicators of Chinese consumption, however, remain weak. A number of advanced foreign economies (AFEs) began to relax social-distancing restraints in recent weeks.

Labor market conditions deteriorated and inflation fell...

Amid widespread business closures and collapsing demand, labor market conditions abroad have deteriorated sharply in recent months, albeit with differences across countries. Several European and Asian countries have thus far experienced sizable declines in hours worked but relatively small increases in unemployment given the size of the drop in economic activity, partly reflecting direct wage subsidies provided by the governments to keep workers on firms' payrolls (figure 38). In other countries, unemployment rates increased markedly.

Although the shutdowns across the world have reduced the global supply of goods and services, the depressive effects on demand of lower income, social distancing, and increased uncertainty have predominated, driving down inflation in the foreign economies. In several AFEs, recent inflation readings have been well below central bank targets, reflecting large declines in energy prices as well as subdued core inflation (figure 39).

. . . prompting swift and substantial policy responses

Foreign fiscal authorities have aimed to fill income gaps resulting from businesses closing and workers staying home. Many national governments acted decisively to support firms' balance sheets through tax deferrals, loans, and loan guarantees; to encourage firms to retain workers through wage subsidies; and to support household spending through enhanced unemployment benefits and cash transfers.

In addition, many foreign central banks reduced their policy rates, initiated or enhanced credit facilities, and relaxed capital requirements for financial institutions. Several AFE central banks also ramped up asset purchase programs to alleviate liquidity strains in their domestic capital markets. Some emerging market economy (EME) central banks followed suit. See the box "Policy Response to COVID-19 in Foreign Economies" for a more detailed discussion of fiscal and monetary policies implemented abroad.

Policy Response to COVID-19 in Foreign Economies

Authorities in foreign economies have announced a wide array of fiscal, monetary, and regulatory measures to mitigate disruptions caused by the COVID-19 pandemic.

Many foreign governments have enacted sizable fiscal packages to address the sudden loss of income by firms and households, with a special focus on the most vulnerable groups, such as low-income individuals, the unemployed, and small and medium-sized enterprises. The size of the support is, on average, considerably larger in advanced foreign economies (AFEs) than in emerging market economies (EMEs), as many EME governments have more limited fiscal space.

The measures targeted at firms aim to keep them afloat in the near term, with the hope of preserving businesses until demand returns. Such measures include loans at favorable terms and loan guarantees; deferrals of taxes and social security contributions; tax breaks and cash transfers, especially for small and medium-sized enterprises; and targeted sectoral support. For households, the measures aim to provide income to those in need and alleviate payment difficulties. These policies include increased unemployment and pension payments, mortgage deferrals, accelerated transfer payments, and direct cash payments. In addition, several AFEs and some Asian emerging economies have adopted large direct wage subsidies to keep workers on firms' payrolls. Such measures may help limit dislocations in the labor markets of these countries by subsidizing a significant reduction in hours worked. The hope of these programs is that workers' continued attachment to their firms will preserve human capital and make it readily available to the firms during the recovery that follows the crisis.

Many central banks have reduced their policy rates (figure A)—often to or near their effective lower bounds—and have taken substantial actions to start or expand asset purchases and to support the flow of credit. Although central banks acted quickly to lower interest rates, some policymakers in the EMEs expressed concerns about intensifying capital outflows, while a few AFE central banks worried about the potential harm to banks' financial health.

Several AFE central banks have purchased government debt in response to the crisis. These purchases have been primarily aimed at restoring market functioning and providing liquidity, but the purchases have also eased financial conditions by lowering long-term yields. The Bank of England (BOE) restarted its purchases of gilts, and the Swedish Riksbank increased the pace of its existing program. The European Central Bank (ECB) and the Reserve Bank of New Zealand introduced and expanded asset purchase programs. The Reserve Bank of Australia (RBA) began bond purchases to target the three-year government bond yield at 0.25 percent, the same as its overnight rate. Some central banks, such as the Bank of Canada (BOC) and the RBA, have started purchases of provincial and state bonds to support liquidity in those markets. To ensure the smooth transmission of its monetary actions, the ECB has used its flexibility to weight its purchases more heavily toward bonds of euro-area member states that face higher yields.

Monetary authorities have also adopted policies to sustain the provision of credit to businesses and households during the pandemic. Central banks have purchased a variety of private assets, thus directly addressing distress in funding markets and helping ease financial conditions for firms. These assets include corporate bonds purchased by the BOE, ECB, and Bank of Japan (BOJ); commercial paper bought by the BOC, BOE, BOJ, and Riksbank; and exchange-traded funds and real estate investment trusts purchased by the BOJ. These actions have significantly expanded the balance sheets of major foreign central banks (figure B). Some central banks in EMEs have also begun purchasing private assets, with the central banks of Chile and Colombia buying bank bonds.

Several central banks have also activated funding-for-lending facilities to provide relatively inexpensive funding to banks as long as they maintain defined lending benchmarks, in some cases with extra incentives to lend to small and medium-sized enterprises. The BOE, BOJ, ECB, RBA, Riksbank, and Bank of Korea currently have such programs.

Regulators in a number of foreign economies have introduced various measures that provide relief for banks to help sustain their capacity to absorb pandemic-related losses while continuing to lend to the economy. These measures include temporarily easing capital requirements, such as the reduction—and, in some cases, elimination—of conservation and countercyclical capital buffers; deferring the implementation of new, stricter Basel capital requirements; temporarily easing liquidity requirements (for example, in France, Germany, and the United Kingdom); and giving banks and their supervisors more flexibility in dealing with nonperforming loans (for example, the ECB). In addition, some regulators have temporarily excluded central bank reserves and certain safe assets from the calculation of leverage exposures. Some foreign regulators are considering the reduction or even elimination of risk weights on new loans guaranteed by the government. Regulators also emphasize that banks should continue to apply sound underwriting standards and conduct solid capital and liquidity planning and robust risk management.

Downside risks remain high

Despite aggressive fiscal and monetary policy actions, risks abroad are skewed to the downside. The future progression of the pandemic remains highly uncertain, with resurgence of the outbreak a substantial risk. In addition, the economic damage of the recession may be quite persistent. The collapse in demand may ultimately bankrupt many businesses, thereby reducing business dynamism and innovation. Unlike past recessions, services activity has dropped more sharply than manufacturing—with restrictions on movement severely curtailing expenditures on travel, tourism, restaurants, and recreation—and social-distancing requirements and attitudes may further weigh on the recovery in these sectors. Disruptions to global trade may also result in a costly reconfiguration of global supply chains. Persistently weak consumer and firm demand may push medium- and longer-term inflation expectations well below central bank targets, particularly in regions with already low inflation at the onset of the recession. Finally, additional expansionary fiscal policies—possibly in response to future large-scale outbreaks of COVID-19—could significantly increase government debt and add to sovereign risk, especially for countries with already limited fiscal space.

Financial conditions abroad tightened, especially in some emerging market economies

The precipitous spread of COVID-19 in the first months of the year weighed heavily on global risk sentiment, and many financial markets suffered from severe illiquidity. Aggressive fiscal and monetary policy responses in the United States and abroad, however, helped boost sentiment and improve market functioning, contributing to a partial retracement. On net, financial conditions abroad remain tighter than at the beginning of the year, especially in some EMEs.

Financial conditions in the AFEs largely tracked financial market developments in the United States. Major AFE equity indexes dropped substantially as news about the spread of COVID-19 and the associated measures to contain it were reported, but those indexes rebounded following the announcement of extraordinary monetary and fiscal policy actions and, more recently, tentative signs of economic stabilization (figure 40). Notwithstanding temporary increases due to poor market functioning, long-term sovereign yields in major advanced economies fell, on net, as flight-to-safety demand surged, policy rates reached their effective lower bounds in several countries, and expectations of future policy rates declined markedly (figure 41). Sovereign interest rates for economies in the euro-area periphery were sensitive to news about the size and form of European-wide fiscal support for the recovery and, on net, remain a bit higher than at the beginning of the year (figure 42). In recent months, Fitch and DBRS Morningstar downgraded Italy's long-term debt ratings.

Financial conditions in some EMEs tightened, especially in Latin American countries. Equity indexes suffered widespread losses early in the year, and rebounds since then have been uneven across countries. While equity indexes in emerging Asia partially recovered, Mexican and Brazilian equity indexes underperformed other EME equities (figure 43). In March, borrowing rates for corporations increased to levels not seen since the Global Financial Crisis, although they have subsequently declined somewhat. In the first half of the year, funds dedicated to investing in EMEs experienced outflows, and sovereign borrowing spreads increased sharply before moving down more recently (figure 44). The tightening in some EME financial conditions appears to reflect investors' preference for safe and liquid assets; a reduced confidence in the ability of some governments to contain the health crisis; and heightened uncertainty about the prospects for EME public finances, commodity prices, and global trade.

The dollar appreciated

The foreign exchange value of the dollar increased nearly 5 percent since the start of the year, as the boost from safe-haven demand outweighed the effects of lower U.S. interest rates (figure 45). On a trade-weighted basis, the dollar increased about 1.5 percent against AFE currencies and 7 percent against EME currencies. The Mexican peso and Brazilian real depreciated about 16 percent and 30 percent, respectively, partly in response to lower commodity prices. The Chinese renminbi fluctuated largely in response to news about the outbreak and policy actions of Chinese authorities and, on net, depreciated slightly since the beginning of the year.


 2. The Bureau of Labor Statistics (BLS) conducts a monthly survey, the Current Employment Statistics survey, to estimate payroll employment. In that survey, employers are asked to report the number of workers on their payrolls during the reference period, which is the pay period that includes the 12th of the month. The unemployment and labor force participation rates (along with other data) are estimated based on a separate monthly survey conducted by the Census Bureau for the BLS, the Current Population Survey, which references the week including the 12th of the month. Return to text

 3. The LFPR in April, at 60.2 percent, was the lowest since January 1973. Return to text

 4. Individuals who have been placed on temporary layoff or expect to be recalled are classified as in the labor force and unemployed. Recently, the BLS reported that a large number of job losers on temporary layoff improperly classified themselves as being "employed but on unpaid absence" in March, April, and May. If these respondents had correctly classified themselves as unemployed but on temporary layoff, the unemployment rate would have been 5 percentage points higher in April and 3 percentage points higher in May. Return to text

 5. The Federal Reserve Bank of Atlanta's measure differs from others in that it measures the wage growth only of workers who were employed both in the current survey month and 12 months earlier. Return to text

 6. The ECI references the March survey week, a period before most of the pandemic-induced layoffs. The wage component of compensation per hour also references the March survey week but was adjusted by the BLS with additional information to better capture job losses during the latter half of March. Return to text

 7. The trimmed mean price index excludes whichever prices showed the largest increases or decreases in a given month. Over the past 20 years, changes in the trimmed mean index have averaged about 1/4 percentage point above core PCE inflation and 0.1 percentage point above total PCE inflation. Return to text

 8. On April 20, the price of front-month oil futures contracts for West Texas Intermediate (WTI) closed at negative $38 per barrel. These WTI futures contracts are settled by physical delivery; as worries about the lack of available storage space intensified, prices spiraled downward. Few contracts were actually traded at these negative prices, and prices recovered in the following days. Return to text

 9. Inflation compensation implied by the TIPS breakeven inflation rate is based on the difference, at comparable maturities, between yields on nominal Treasury securities and yields on TIPS, which are indexed to the total consumer price index (CPI). Inflation swaps are contracts in which one party makes payments of certain fixed nominal amounts in exchange for cash flows that are indexed to cumulative CPI inflation over some horizon. Inflation compensation derived from inflation swaps typically exceeds TIPS-based compensation, but week-to-week movements in the two measures are highly correlated. Return to text

 10. As these measures are based on CPI inflation, one should probably subtract about 1/4 percentage point—the average differential with PCE inflation over the past two decades—to infer inflation compensation on a PCE basis. Return to text

 11. Quarterly real PCE begins in the first quarter of 1947. Return to text

 12. These programs boosted aggregate DPI; however, the income of many individuals and households was lower in April than in February either because they did not qualify for benefits or because of delays between job loss and the receipt of those benefits. Return to text

 13. Even with lending standards unchanged, credit access can tighten as people lose their jobs, fall behind on their payments, and see their scores deteriorate. Return to text

 14. See Board of Governors of the Federal Reserve System (2020), "Federal Reserve Announces Extensive New Measures to Support the Economy," press release, March 23,; and Board of Governors of the Federal Reserve System (2020), "Federal Reserve Takes Additional Actions to Provide Up to $2.3 Trillion in Loans to Support the Economy," press release, April 9, to text

 15. For a more detailed description of the economic conditions for small businesses, including a discussion of the support provided by Federal Reserve facilities, see the box "Small Businesses during the COVID-19 Crisis."  Return to text

 16. The CBO's forecasts and estimates can be found at Congressional Budget Office (2020), "Discretionary Spending under Division A, the Coronavirus Preparedness and Response Supplemental Appropriations Act, 2020" (table 1), March 4,; Phillip L. Swagel (2020), "Preliminary Estimate of the Effects of H.R. 6201, the Families First Coronavirus Response Act," Congressional Budget Office, letter to Nita M. Lowey, April 2,; Phillip L. Swagel (2020), "Preliminary Estimate of the Effects of H.R. 748, the CARES Act, Public Law 116-136, Revised, with Corrections to the Revenue Effect of the Employee Retention Credit and to the Modification of a Limitation on Losses for Taxpayers Other Than Corporations," Congressional Budget Office, letter to Mike Enzi, revised April 27,; Congressional Budget Office (2020), "Changes in Direct Spending under Division A, Small Business Programs" (table 1), April 22,; and Phillip L. Swagel (2020), "CBO's Current Projections of Output, Employment, and Interest Rates and a Preliminary Look at Federal Deficits for 2020 and 2021, CBO Blog, April 24, to text

 17. See Phillip L. Swagel (2020), "CBO's Current Projections of Output, Employment, and Interest Rates and a Preliminary Look at Federal Deficits for 2020 and 2021," CBO Blog, April 24, to text

 18. These measures are based on a straight read of market quotes and are not adjusted for term premiums. Return to text

 19. The results of the Survey of Primary Dealers and the Survey of Market Participants are available on the Federal Reserve Bank of New York's website at and, respectively. Return to text

 20. Official measures of first-quarter profitability for the entire banking sector have been delayed to give banks more time to file their regulatory reports in response to the COVID-19 pandemic. Return to text

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Last Update: August 11, 2022