Abstract

This article reviews and explains the recent policy reactions of the Federal Reserve, the European Central Bank, the Bank of England, and the Bank of Japan to the financial and macroeconomic turmoil caused by the COVID-19 pandemic. The financial and monetary policy actions of major central banks in the most recent crisis have, by some metrics, surpassed their responses to the Global Financial Crisis of 2007-09 in both swiftness and scope.

Jacob Haas is a research associate, Christopher J. Neely is a vice president and economist, and William R. Emmons is an assistant vice president and economist at the Federal Reserve Bank of St. Louis. 

INTRODUCTION 

Concerns about the spread of the COVID-19 virus and its effect on economic activity produced one of the most turbulent periods of financial market activity in history from mid-February to April 2020. In some ways, this episode resembled the events of September-October 2008, during the Global Financial Crisis (GFC) of 2007-09. Severe problems arose suddenly in international financial markets. Uncertainty and fear raised volatility and led investors to broadly sell risky assets, which reduced their prices.

International authorities responded to both the GFC and the recent COVID-19-inspired crisis. Fiscal authorities increased spending, including providing much more generous unemployment benefits, while central banks made credit more widely available in financial markets and supported markets for illiquid securities. Regulators allowed banks to reduce their capital and liquidity buffers and encouraged lenders to work with borrowers. 

But there are significant differences between the two events, too. The events of September 2008 resembled a bank run. Investors became uncertain about the value of some types of risky housing assets—mortgage-backed securities (MBS) and other asset-backed securities (ABS) not guaranteed by the government and collateralized debt obligations—and therefore sought to reduce their exposure to all such assets and the firms that might own them or have guaranteed them.

Fear and uncertainty also drove events in 2020, but this anxiety focused not on opaque financial relationships but on the impact of COVID-19—a true negative supply shock but also a demand shock—on economic activity and employment.¹ For 2020, the International Monetary Fund (IMF) projects an 8 percent decline in the gross domestic product (GDP) of advanced economies and a 3 percent decline in that for emerging market economies.² If this occurs, the COVID-19 recession will be much deeper than the 2007-09 recession, when the GDP of advanced economies declined by 3.3 percent and that for emerging markets economies grew by 2.8 percent (IMF, 2020b). 

Policy responses to the two episodes differed because the shocks were fundamentally different. In the COVID-19 crisis, authorities did not immediately seek to broadly stimulate the economy to put people back to work in March-June because some social isolation was necessary to reduce the spread of COVID-19. Instead, authorities concentrated on maintaining the health of the financial system, supporting individuals in isolating themselves but keeping long-term economic relationships intact. In the United States, these policies included Small Business Administration and Federal Reserve (Fed) support for small businesses. 

Benefitting from their previous experience, policymakers responded much faster to the incipient COVID-19 crisis than to the GFC of 2007-09. In particular, they introduced new programs and reintroduced old ones more rapidly. The breadth of the policy response was also, in some cases, beyond any previous crisis response. For example, the introduction of direct Fed lending to businesses, states, and cities in the COVID-19 crisis is unprecedented in the United States, as is the likely eventual size of the Fed's balance sheet (Timiraos and Hilsenrath, 2020). In a departure from the previous episode, all major central banks felt themselves to be in broadly similar situations. At the start of the GFC, in 2007 to 2008, leaders of the European Central Bank (ECB) and the Bank of Japan (BOJ) thought their economies were somewhat insulated and that the financial crisis was mostly a problem for the United States and United Kingdom. In 2020, the crisis was truly global from the outset. 

This article examines how the major central banks—the Fed, the ECB, BOJ, and the Bank of England (BOE)—responded to the financial market turbulence of February-April 2020 and the anticipated plunge in economic activity. We summarize how and why these central banks implemented credit, asset-purchase, and banking support programs and compare and contrast the international policy responses. While future developments may overshadow those we document here, we hope this article will be useful to future readers who wish to understand the policy responses as they were rolled out in the early months of the COVID-19 crisis. We also touch briefly on fiscal and regulatory responses, particularly their interactions with central bank policies. 

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