Virus outbreaks in the coming months will drive a “ramp up” in demand for the Federal Reserve’s $600bn lending scheme to help American business weather the coronavirus pandemic, a senior central bank official has predicted. 

“My expectation and my fear is that we still have community spread in many areas of the United States and that’s likely to continue being a problem, not only for public health, but also for the economy,” said Eric Rosengren, the president of the Federal Reserve Bank of Boston.

“If my expectations are right, there are going to be more firms that start worrying about whether they have sufficient financing . . . so my expectation is that we will ramp up over time, and we will see more banks and more borrowers,” Mr Rosengren said in an interview with the Financial Times.

The “Main Street Lending Programme”, where banks dole out loans but the Fed takes 95 per cent of the risk, was announced in March but only became fully operational in June. The Boston Fed, which is responsible for the programme, spent months hammering out ways to broaden eligibility and sweeten loans terms after scepticism from banks and borrowers.

Even with those changes, banks say there has been little or no interest in the programme since its launch, blaming the fact that larger companies can raise record levels of funding from debt markets while smaller companies find the programme too costly and complex. 

The funding environment for large companies is so good that US banks are expected to report next week that lending fell overall in the first quarter as companies repaid the credit lines they drew down in March when they feared a funding crunch.

Still, Mr Rosengren said the Fed was beginning to field requests for loans from companies ranging from movie chains to software, beverage, and oil services businesses.

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The Fed is also continuing to attract banks to help originate the loans: some 260 have registered to participate in the programme, including 90 that will process loans for non-customers as well as for businesses with which they have existing relationships. Many other banks are in the registration process, bringing the total number either signed up or signing up to over 400.

“If the pandemic and the economy continue to be intertwined in a negative way as we get into the fall, and possibly with a more severe problem in the fall, this programme provides a very important insurance against both borrowers not having access to credit, and banks being reluctant to provide lending as their own balance sheets become potentially constrained by problem loans,” Mr Rosengren said.

The Boston Fed president also hinted the scheme might have a longer lifespan than its original September expiration date. “I would think if there is a need — and my expectation is there probably will be a need — that that will be extended, but no decision has been made at this point,” said Mr Rosengren.

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He brushed off criticism that the loan terms in the Main Street plan were too stringent and the process too costly for struggling companies, particularly smaller ones who face tens of thousands of dollars in fees for loans as low as $250,000.

“Libor [the interbank borrowing rate] plus 300 basis points for a firm that is either shut down, or was shut down for quite a period and had a bad disruption in revenues, I think for many of those borrowers that will actually be an attractive rate,” he said.

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But Mr Rosengren warned that the most distressed businesses would not be able to participate, since the Fed is constrained on how much credit risk it can take.

“Firms that don’t have the capacity to take on debt and are in danger of failing quickly are not appropriate for this programme,” he said. “This programme is meant to meet a particular need, and that particular need is a business that has been disrupted but that business is likely to be fine”.

The plan would soon be expanded to include non-profit organisations, such hospitals and universities, he added, and the current loan terms could always be modified further.

“As we see the programme proceed and we see what’s happening with the economy, we certainly have the ability to re-evaluate what’s working and what’s not working and if we see that there are major problems, we’ll have to take a look at that,” he said.

Via Financial Times