Coronavirus poses ‘new risk’ to US, global economy, Fed warns

US central bank cautions that China’s economic distress could spill over to the US, slamming trade and commodity prices.

The coronavirus has claimed more than 600 lives since its outbreak in China, and some economists have started to mark down their first-quarter United States growth estimates as China's economy is expected to slow with the outbreak [Bloomberg]

The Federal Reserve Board said that the coronavirus outbreak presented a “new risk” to the economic outlook for the U.S. and warned of disruptions in global markets.

“Because of the size of the Chinese economy, significant distress in China could spill over to U.S. and global markets through a retrenchment of risk appetite, U.S. dollar appreciation, and declines in trade and commodity prices,” the U.S. central bank wrote in its semi-annual report to Congress released on Friday in Washington. “The effects of the coronavirus in China have presented a new risk to the outlook.”

The coronavirus has claimed more than 600 lives since its outbreak in China. Some economists have started to mark down their first-quarter U.S. growth estimates as China’s economy is expected to slow due to the coronavirus outbreak.

Powell will discuss the economy and monetary policy before the House Financial Services Committee on Feb. 11 and the Senate banking panel the following day. The Monetary Policy Report released Friday is aimed at informing the Congress of the Fed’s outlook and sense of risks to U.S. and global growth.

Stress points

A special section on financial stability was more descriptive than the previous report on possible points of stress in some areas. The Fed said that low interest rates had elevated asset valuations, and it also pointed to risks in the corporate debt markets.

“The concentration of investment-grade debt at the lower end of the investment-grade spectrum creates the risk that adverse developments, such as a deterioration in economic activity, could lead to a sizable volume of bond downgrades to speculative-grade ratings,” the Fed said. “Such conditions could trigger investors to sell the downgraded bonds rapidly, increasing market illiquidity and causing outsized downward price pressures.”

The Fed also mentioned that volatility in repurchase agreement markets in September “highlighted the possibility for frictions in repo markets to spill over to other markets.”

U.S. central bankers kept their benchmark interest rate unchanged at their meeting last month after cutting three times in 2019. Forecasts released in December show that most of them expect to stay on hold through 2020, keeping the Fed on the sidelines during a U.S. presidential election year.

Chairman Jerome Powell told reporters on Jan. 29 that monetary policy is “well positioned” to support growth, labor markets and a return of inflation to the Fed’s 2% target.

On the domestic front, Labor Department data released earlier on Friday showed the U.S. jobs market remains durable. Payrolls increased by a stronger-than-expected 225,000 workers and average hourly earnings climbed 3.1% from a year earlier.

Manufacturing slowdown

The report also devoted a section breaking down the slowdown of manufacturing in the U.S. in 2019. The Fed attributed the decline to a range of issues including international trade tensions, weak global growth, softer business investment, lower oil prices affecting drillers and the slowdown in production of Boeing Co.’s 737 Max airliner.

While the 2019 decline in manufacturing accounted directly for a 0.15% drop in gross domestic product, Fed economists estimated that number rises 0.5% when adding the impact on purchased inputs and downstream activities, like transport and marketing.

A poor 2019 also comes amid a long-run deterioration of manufacturing in the U.S. as a share of employment and GDP that goes back more than half a century and has continued this century. Factory output has grown just 0.5% a year since 2001, with only two of those years recording gains greater than 3.5%.

Source: Bloomberg