Economy Faces a Coronavirus Challenge as Markets Swoon

WASHINGTON — As an uptick in the number of coronavirus infections outside China sent markets swooning on Monday, attention quickly turned to how the Federal Reserve and the United States government would assess — and even address — the economic fallout.

The Fed cut interest rates three times in 2019 to insulate the economy against uncertainty stemming from President Trump’s trade war and slowing global growth. Central bank officials have been clear that they expect to leave interest rates unchanged now unless inflation jumps — potentially causing them to lift rates — or risks upend their outlook for stable growth, prompting them to cut.

The question now is whether the new coronavirus represents such a threat. Fed officials have been unwilling to declare it a reason to move yet. But even as they strike a wait-and-see pose, markets are increasingly betting that global economic and market fallout from the disease will push the central bank to lower borrowing costs.

Markets on Monday had priced in a 75 percent chance of a rate cut as of the Fed’s June meeting, based on a CME Group tracker. The chance of a move that soon was priced at less than 50 percent a week ago.

The outbreaks in Italy and South Korea suggest that the virus “may be on the brink of morphing into a global pandemic,” Krishna Guha at Evercore ISI wrote in a note to clients, announcing that he and his colleagues had raised their estimate of the probability of a Fed rate cut this year to 45 percent.

That “would likely have persistent impacts on global demand as well as lengthy effects on supply chains and trade” and “may well call for a monetary policy response,” the note said.

The Fed may have limited ability to counteract any global economic fallout from the coronavirus, since its tools work to stoke demand — if factories are not producing goods and supply chains are disrupted by quarantines, cutting rates to make borrowing cheaper may do little to help.

  • Updated Feb. 26, 2020

    • What is a coronavirus?
      It is a novel virus named for the crownlike spikes that protrude from its surface. The coronavirus can infect both animals and people and can cause a range of respiratory illnesses from the common cold to more dangerous conditions like Severe Acute Respiratory Syndrome, or SARS.
    • How do I keep myself and others safe?
      Washing your hands frequently is the most important thing you can do, along with staying at home when you’re sick.
    • What if I’m traveling?
      The C.D.C. has warned older and at-risk travelers to avoid Japan, Italy and Iran. The agency also has advised against all nonessential travel to South Korea and China.
    • Where has the virus spread?
      The virus, which originated in Wuhan, China, has sickened more than 80,000 people in at least 33 countries, including Italy, Iran and South Korea.
    • How contagious is the virus?
      According to preliminary research, it seems moderately infectious, similar to SARS, and is probably transmitted through sneezes, coughs and contaminated surfaces. Scientists have estimated that each infected person could spread it to somewhere between 1.5 and 3.5 people without effective containment measures.
    • Who is working to contain the virus?
      World Health Organization officials have been working with officials in China, where growth has slowed. But this week, as confirmed cases spiked on two continents, experts warned that the world was not ready for a major outbreak.

“It’s hard to try to figure out how to be pre-emptive in a set of issues that have to do with health issues, but which then may go into supply chains,” Roger Ferguson, a former Fed vice chairman who is now the chief executive at TIAA, told reporters in Washington on Monday. “This one feels to me like one to watch, see and then decide if your tool is the right tool.”

Fed officials have also been cautious in characterizing the coronavirus as a game-changing threat because it is unclear how fast and how far it might spread.

“Coronavirus is a big risk. We have to see how that plays out,” Loretta Mester, the president of the Federal Reserve Bank of Cleveland, said on Monday, adding that she does not favor a rate cut at this point.

For now, she and her colleagues are monitoring data on infections, talking to business contacts on the ground and thinking through scenarios in which the virus might affect the U.S. economy.

“You have to be forward-looking,” Ms. Mester told reporters. “But you need to have some kind of evidence that, if you’ve changed your outlook, why have you changed your outlook.”

Huge uncertainties surround the virus’s trajectory. Goldman Sachs economists expect the spread to slow sharply by the end of March and anticipate that supply chain disruptions will be “negligible” if things return to normal quickly. But they wrote in a note on Sunday that things could play out very differently if infections do not slow.

Risks are “heavily skewed to the downside should Chinese activity continue to be depressed for longer,” they wrote. “The impact might also become much larger if the coronavirus outbreak spreads quickly and slows down activity in other countries, disrupting supply chains further.”

Even without a big supply chain hit, Goldman Sachs’s trackers indicate that Chinese travel and economic activity are picking up more slowly than the analysts had initially expected. They now expect first-quarter gross domestic product growth in the United States to slump to 1.2 percent on an annualized basis before rebounding to 2.7 percent in the second quarter.

That temporary hit will come as tourism spending in the United States from Chinese visitors falls by two-thirds, and as Chinese demand for American exports slumps.

The real issue for the Fed, and for other economic policymakers, is the possibility that the virus might not prove short-lived.

“The question for us really is: What will be the effects on the U.S. economy? Will they be persistent? Will they be material?” Jerome H. Powell, the Fed chair, told lawmakers while testifying before a congressional committee this month.

Some officials have been relatively unconcerned about the chances of lasting fallout. James Bullard, the president of the Federal Reserve Bank of St. Louis, said in a CNBC interview on Friday that “there’s a high probability that the coronavirus will blow over.” He added that “there’s a low probability that this could get much worse” and that market pricing can reflect that.

Those comments came before reports later on Friday and over the weekend showed coronavirus cases climbing outside China. The virus has now infected more than 79,000 people in China and 32 other countries.

Fed officials are not alone in avoiding big declarations: Administration leaders and other economic officials have also approached the virus’s implications cautiously.

The coronavirus is “something we’re tracking carefully,” Phillip Swagel, the director of the Congressional Budget Office, said Monday morning at an event in Washington, but said he did not have much else to add on the topic.

Tomas Philipson, the acting chairman of the White House Council of Economic Advisers, said at the National Association for Business Economists conference in Washington that the Chinese shutdowns would have some economic effect in the United States but that it is too early to tell how significant that would be.

“We don’t know yet. We’re sort of taking a wait-and-see approach,” he said, also noting that the scale of seasonal influenza is much more significant and that “in terms of the public health impact on the economy, I think that’s been exaggerated.”

The virus was a big topic of discussion at the Group of 20 finance ministers meeting in Riyadh over the weekend, where Treasury Secretary Steven Mnuchin also advocated a wait-and-see approach.

“It’s tough to have strong predictions on the economic issues without being able to predict the health outcome,” he said during an interview with CNBC on Sunday. “So I think we need another three or four weeks to see how the virus reacts until we really have good statistical data.”

Alan Rappeport contributed reporting from Riyadh, Saudi Arabia.

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