US economy to shrink 6.5 per cent in 2020, focus on recovering from Covid-19: Federal Reserve

The US Federal Reserve on Wednesday signalled it plans years of extraordinary support for an economy facing a torturous slog back from the coronavirus pandemic, with policymakers projecting the economy to shrink 6.5 per cent in 2020 and the unemployment rate to be 9.3 per cent at year's end.

In the first economic projections of the coronavirus pandemic era, US central bank policy makers put into numbers what has been an emerging narrative: that the shutdowns, restrictions and other measures used to battle a health crisis will echo through the economy for years to come rather than be quickly reversed as commerce reopens.

Single-minded mission

Some 20 million or more people have been thrown out of work since February, and Fed Chair Jerome Powell acknowledged it could take years for them to all reacquire jobs — an economic blow that is falling heaviest on minority communities at a time when mass protests over police brutality have thrown a new spotlight on racial inequality in the United States.

Powell, acknowledging the nationwide demonstrations in his opening remarks at a news briefing, said it was now the Fed's single-minded mission to bring the job market back to where it was at the end of last year, with the unemployment rate at a record low 3.5 per cent and wage gains accumulating for some of the very same lower-paid workers in the service sector that have suffered most during the recent collapse.

22-24 million people - somehow as a country we have to get them back to work,” Powell said via video link after the end of the Fed's latest two-day policy meeting. “They did not do anything wrong. This was a natural disaster.”

“It is a long road. It is going to take some time,” he said. “We can use our tools to support the labour market and the economy and we can use them until we fully recover.”

The fresh policymaker projections start to show just how long that might take. At the median, officials see the unemployment rate falling to 6.5 per cent at the end of 2021 and 5.5 per cent at the end of 2022 - still a full 2 percentage points above where it was at the end of last year, representing millions of lost years of work and wages.

“The ongoing public health crisis will weigh heavily on economic activity, employment and inflation in the near term and poses considerable risks to the economic outlook over the medium term,” the Fed said in its policy statement.

No rate hikes

The response has been an unparalleled level of unanimity in the outlook for monetary policy. All 17 current Fed policy makers see the key overnight interest rate, or federal funds rate, remaining near zero through next year, and 15 of 17 see no change through 2022.

Even in the depths of the 2007-2009 financial crisis and recession some policy makers raised a cautionary flag about the need for higher interest rates to guard against inflation.

This time that debate has disappeared. The Fed's preferred measure of inflation is expected to be a weak 0.8 per cent this year, compared to the central bank's goal of 2 per cent, and rising to just 1.7 per cent at the end of 2022. At this point “we are not even thinking about thinking about raising rates,” Powell said.

The decision to leave the policy rate unchanged on Wednesday was unanimous. The central bank also began shaping the longer-term measures it will use to keep the recovery as strong as possible. Officials promised to maintain ongoing Fed bond purchases at least at the current pace of around $80 billion per month in Treasuries and $40 billion per month in agency and mortgage-backed securities - levels that may be increased later, or supplemented with other strategies.

While growth may resume this year, policy maker forecasts show the rebound beginning in earnest in 2021, with economic growth for the year forecast at 5 per cent.

Notably, the Fed did not mark down its long-run estimates of full employment, trend growth or the federal funds rate, a sign officials feel the country may escape permanent economic damage from a health crisis that has killed more than 112,000 in a few months.

“Their messaging is we are keeping rates low, but this is going to work, it is going to get us there,” said Bruce Monrad, chairman and portfolio manager at Northeast Investors Trust in Boston.

Market’s reaction

On Wall Street, which had been near unchanged ahead of the Fed's statement, stock prices ended mixed. The benchmark S&P 500 index was down about 0.5 per cent whereas the Nasdaq Composite was up about 0.7 per cent. Yields on US Treasuries slipped and the dollar fell against a basket of currencies.

The pledge to keep monetary policy loose until the US economy is back on track repeats a promise made early in the central bank's response to the coronavirus pandemic.

That response included cutting interest rates to near zero in March and making trillions of dollars in credit available to banks, financial firms, and a wide array of companies.

‘Biggest economic shock’

Powell said that while much remains uncertain, particularly the progress of the pandemic, the fiscal and monetary response has been working well so far, maintaining income support for the unemployed and limiting business failures so far. More may be needed, he said.

“This is the biggest economic shock in living memory,” Powell said. The response “has been large, forceful and very quick ... In a class by itself.”

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