The Federal Reserve is facing heavy pressure from lawmakers and watchdogs to fairly implement a rescue plan that could deliver up to $4tn in financial support for corporate America, as the US central bank treads into the politically fraught terrain of crisis-era fiscal policy.
Since the coronavirus pandemic exploded last month, shutting down many parts of the US economy and leaving at least 26m people unemployed, the Fed rushed to ease monetary policy and calm investors by slashing interest rates, ramping up asset purchases, and set up lending facilities to stressed corners of the financial markets.
But the US central bank was also tasked by Congress and the White House to manage the main government aid plan for distressed companies in last month’s stimulus bill, placing it at the heart of the fiscal response in a way that exceeds its role in the 2008 financial crisis and raises the risk of a political backlash for the central bank.
“If the economy emerges, post Covid-19, with a lot more large companies alive and healthy and potentially even stronger, whereas a lot of the smaller, more innovative companies have been wiped away, I think it’ll be hard for the Fed to escape some of the blame,” said Kathryn Judge, a professor at Columbia University Law School.
In recent weeks, the Fed has begun work on the stimulus plan, which allows it to use $454bn in equity from the US Treasury to extend loans and buy debt from companies and local authorities during the crisis.
The money can be leveraged as much as 10 times the equity, bringing up to $4tn in liquidity to the economy if it is fully used, and Fed officials have pledged to perform their role in as luminous and impartial a way as possible.
“Considering the speed and scale of damage caused by the virus outbreak, we are making all efforts to implement these facilities at maximum speed,” Daleep Singh, executive vice-president at the New York Fed, said last week. “At the same time, though, we are moving with maximum care, drawing upon all of the lessons learned since 2008.”
Jay Powell, the Fed chair, is entering the crisis in relatively good standing with most Americans, even after three years of persistent criticism from Donald Trump, the US president. According to a Gallup poll released this week, 58 per cent of Americans have a “great deal” or a “fair amount” of confidence that he will do the right thing for the economy, the best score in that survey for any Fed chair since Alan Greenspan in 2005.
Critics have already warned the Fed that it risks falling short. Bharat Ramamurti, a former aide to Elizabeth Warren, Massachusetts senator, who was chosen to be a member of a congressional oversight panel for the bailout funds, has been pressing the central bank to offer concrete details or their loans and urged strict enforcement of the conditions on that assistance. These include maintaining workers on payroll, limiting executive compensation, and avoiding share buybacks and dividend payments.
“If we know which companies are getting loans from the Fed, then we can assess what the companies do thereafter and are they acting in the best interest of American families,” Mr Ramamurti told the Financial Times.
Lever it up, dole it out: the Fed’s bailout vehicles
The Cares act — the US economic stimulus package enacted last month in response to the coronavirus pandemic — directed the Federal Reserve to take charge of $454bn in money from the US Treasury department to help distressed businesses by buying their debt and providing them with loans and loan guarantees. In recent weeks, the Fed has moved to set up the facilities to implement the plan, already setting aside some $185bn of equity funding to be used in three main pots.
PRIMARY AND SECONDARY MARKET CORPORATE CREDIT FACILITIES
Purpose: To buy debt and loans from companies, as a backstop to corporate debt markets.
Size: $750bn, using $75bn in equity from the Treasury.
Eligibility: Issuers that were rated investment grade — at least BBB-/Baa3 — as of March 22, and if downgraded since then, issuers rated at least BB-/Ba3 at the time of the transaction.
Leverage: 10-1 for purchases of investment grade corporate debt or loans, 7-1 for other assets.
MAIN STREET LENDING PROGRAMME
Purpose: To facilitate lending to small and midsize companies that are not getting all the federal aid they need from a separate loan programme run by the Small Business Administration.
Size: $600bn, with $75bn in equity from the Treasury.
Eligibility: Businesses with up to 10,000 employees or up to $2.5bn in 2019 annual revenues, with significant operations and a majority of employees in the US.
Terms: Minimum loan of $1m, maximum loan of $25m or no more than four times 2019 earnings before interest, taxes, depreciation and amortisation. Borrower must agree to limit compensation, share buybacks, dividend payments, and make “reasonable efforts” to retain employees.
MUNICIPAL LIQUIDITY FACILITY
Purpose: To buy debt issued by US local authorities, helping prop up municipal credit markets.
Size: $500bn, with $35bn in equity from the Treasury.
Eligibility: All US states and the District of Columbia, US cities with populations over 1m, and counties with populations over 2m.
Terms: The Fed will purchase debt worth up to 20 per cent of the issuer’s own revenue for the 2017 fiscal year.
On Thursday, the Fed said it would supply the identity of companies receiving federal aid through its facilities on a monthly basis, along with other information including amounts borrowed, interest charged, and overall “costs, revenues and fees” for each facility.
Mr Ramamurti said on Twitter the move was a “significant victory for the public” and a “very good step” but the panel would “need to look carefully at the first report to see if other information is needed”.
French Hill, a Republican lawmaker from Arkansas who was also selected to be a member of the oversight panel, said the Treasury and Fed were doing the best they could under “incredible pressure” but acknowledged they would both face some criticism given the speed of implementation.
The panel’s “mission”, Mr Hill said, was to check the Fed was respecting the goals of Congress to ensure the “wellbeing of the population and financial stability”.
Some of the pitfalls of providing federal aid in the coronavirus era have already emerged from this month’s disbursement by the Treasury and the Small Business Administration of a $350bn loan programme for troubled small businesses, which ran out of funds within two weeks and has already had to be replenished.
Revelations that some public companies had managed to qualify for the support, crowding out the intended beneficiaries, like small restaurants and dry cleaners, was met with a harsh backlash on Capitol Hill — a scenario that the Fed might want to avoid. The US central bank has some ties to the SBA plan in that it has agreed to backstop some of the loans made by the banks.
More importantly, it has established a “Main Street lending programme” as part of the stimulus bill that is designed specifically to help businesses with up to $2.5bn in annual revenues or up to 10,000 employees — and which is expected to be even more heavily scrutinised.
The Fed does not expect the Main Street programme — which has $600bn in firepower, based on $75bn of Treasury equity — to run out of money as quickly as the SBA programme did, which should dampen some concern about limited access to the facility.
But Prof Judge said that its reliance on banks to screen eligibility for the loans could still tilt lending towards the established customers of financial institutions.
“There are a lot of reasons to be worried that the tools the Fed has available are just not the optimal tools to get money to the right companies, on the right terms, for this crisis,” she said.
In its foray into implementing fiscal policy, the Fed is trying to ensure that it is being as neutral as possible. To avoid any perception that it is picking winners and losers in the economy, it has set detailed eligibility criteria for each of its facilities under the stimulus legislation. And as it takes on more potential credit risk than it has in the past, including through the purchase of debt that was recently downgraded to junk, it will require more equity to cover losses.
Even so, there are big political and lobbying battles occurring over which sectors and companies will benefit from the aid.
This week, as oil prices plunged, Republicans demanded some changes to the terms of the Fed’s credit facilities to make it easier for energy groups to participate, while Democrats protested against any rescue for fossil fuel producers — ensuring that one side or the other will be disappointed.
Meanwhile, Democrats are asking the Fed to modify the eligibility criteria for its municipal liquidity facility, which the central bank said would lend only to states, cities with over 1m residents, and counties with more than 2m residents. That attracted complaints for cutting out middle-sized cities such as Baltimore, Maryland, and Toledo, Ohio, and large counties like Westchester in the New York suburbs.
Chris Sperry, a portfolio manager for Franklin Templeton Fixed Income’s municipal bond group said making these determinations should not be up to the Fed.
“This is a very political arena,” he said. “How much does the Fed want to be involved in public and municipal finance? It is a dangerous road.”
Additional reporting by Colby Smith in New York