Date Published: March 17, 2020
With every day bringing an onslaught of COVID-19 related headlines, all but the largest announcements can quickly blur together. While travel restrictions, fiscal packages, and interest rate cuts may be memorable, just as important is ensuring that the financial plumbing continues to operate smoothly. In the current high volatility environment, elevated uncertainty risks turning into a breakdown of trust and a ‘dash for cash’ that blows out credit spreads and seizes up funding markets even further. This risk was already becoming evident by last week as the FRA-OIS spread, a measure of perceived credit risk in the important Bankers’ Acceptance market, rose rapidly (Chart 1).
Fortunately, policymakers have been quick to respond. The Bank of Canada has introduced a slew of liquidity measures, and CMHC has brought back a crisis-era mortgage purchase program. It seems a safe bet that there will be further challenges (and further responses) before the COVID-19 outbreak is in the rear-view mirror, but we can take some solace in these timely efforts to keep Canada’s financial plumbing functioning as it should.
The staff of the Bank of Canada have been busy of late. Friday’s 50 basis point inter-meeting cut, coordinated with Finance Minister Morneau and OSFI Superintendent Rudin was a big event, but there has been much more going on, with the Bank of Canada putting its balance sheet to work supporting funding markets.
The following highlights the array of newly-announced measures:
Notable by its absence from Friday’s coordinated policy response was CMHC, whose mandate is stated as ‘help[ing] Canadians achieve their housing needs’. It was only a few days later that this agency announced its own boost of support for the Canadian economy. CMHC will make up to $50bn in purchases of insured mortgage pools via its Insured Mortgage Purchase Program (IMPP), a facility last used during the global financial crisis. These pools are, in simple terms, collections of individual insured mortgages made by financial institutions that are packaged together. These packages are then sold directly to investors or turned into Canada Mortgage Bonds via the CHMC’s Canada Housing Trust, which uses swaps and other tools to further reduce the risk profile. By purchasing these pools, CMHC provides lenders with an additional source of liquidity. Like the Bank of Canada’s purchases of CMBs, this liquidity should help rein in credit spreads, improving the transmission of interest rates to mortgage borrowers, and thus supporting the important residential investment market.
There are bound to be debates over whether these new measures, particularly the BoC’s, qualify as quantitative easing or not. Regardless of what you want to call them, these balance sheet operations are a welcome addition to the list of economic responses to COVID-19. With the economic impact of the pandemic serious enough, the last thing that Canada needs is a freezing up of the financial system. The Bank of Canada and CHMC are moving swiftly to mitigate this risk, and given recent communications, are set to do more if warranted.
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