Coronavirus is a risk for the world economy

Just when the outlook for the world economy had been declared encouraging, a new threat emerges in the form of a viral outbreak in China. That was the warning message that Federal Reserve President Jerome Powell delivered on Wednesday after the Fed decided to keep interest rates low.

Powell said the signing of a preliminary trade agreement between the US and China, the resolution of Brexit, and the low rates in the US and abroad suggested that the world economy would expand more rapidly. That is now threatened by the virus.

Still, Powell said the extent of the economic damage that the virus can cause in China or around the world is still unknown.

“There is likely to be some disruption in activity in China and worldwide,” he said. “It is very uncertain how far it will extend and what the (economic) effects will be in China, for its trading partners, and around the world … We are monitoring the situation very carefully.”

However, Powell said he believes “there are signs and reasons to wait” for a global economic uptick. And he said that the initial trade agreement between the United States and China and a new trade pact between the United States, Canada, and Mexico that President Donald Trump promulgated on Wednesday could potentially boost the US economy.

Powell spoke after the Fed announced that it had maintained its key interest rate unchanged at a low range of 1.5% to 1.75%, well below the levels that were typical during previous expansions. The president and other Fed officials have indicated that they see that range low enough to support faster growth and hiring.

However, investors are increasingly betting that the Fed will feel compelled to reduce rates later this year, probably because of concerns that the US will feel the impact of a global slowdown derived from the coronavirus. The chances of a cut at the September Fed meeting have increased above 70%, according to the FedWatch tool of the Chicago Mercantile Exchange, compared to 40% just a month ago.

Paul Ashworth, chief economist on the United States at Capital Economics, said he saw nothing in the Federal Reserve statement or at the Powell press conference to change his belief that the central bank will maintain its benchmark rate without changes in the foreseeable future.

“Unless the US experiences its own epidemic, we doubt that the indirect effects of the disturbances in China are sufficient to guarantee a cut in US rates,” said Ashworth.

Indeed, the coronavirus has closed much of that nation and it seems that it will slow down the Chinese economy, the second-largest in the world, which had already slowed. The virus has now infected more people in China than were ill in the country from the SARS outbreak in 2002-2003.

Major companies around the world have responded to the virus by suspending some operations in China. Starbucks said it plans to close half of its stores in China, its second-largest market. British Airways has stopped all flights to China, and American Airlines suspended flights from Los Angeles to and from Shanghai and Beijing.

Hotels, airlines, casinos, and cruise operators are among the industries that have suffered the most immediate repercussions. Apple CEO Tim Cook said that the company’s suppliers in China have been forced to delay the reopening of factories that have closed for the Chinese New Year holidays until February 10.

Stock prices fell after the Fed issued its statement and Powell concluded its press conference. The Dow Jones Industrial Average closed just higher after having posted stronger gains on previous operations. Bond yields decreased slightly.

The Fed’s statement, which its policy formulation committee approved 10-0, was almost identical to the one it issued in December, although this time it described that consumer spending increased only at a “moderate” rate rather than ” strong”. That change probably reflects a relatively modest expense of Americans during the holiday shopping season. The statement also noted that the Federal Reserve wants inflation to rise more. The Fed’s preferred measure showed that inflation rose only 1.5% in November from the previous year, below its 2% target.