Morgan Stanley
  • Thoughts on the Market
  • Nov 25, 2020

The Real Risk of Fed/Treasury Conflict

With Michael Zezas
U.S. Public Policy Research for Investors


Welcome to Thoughts on the Market. I'm Michael Zezas, Head of Public Policy Research and Municipal Strategy for Morgan Stanley. Along with my colleagues, bringing you a variety of perspectives, I'll be talking about the intersection between U.S. public policy and financial markets. It's Wednesday, November 25th at 11:00 a.m. in New York.


Last week, we saw something rare: public disagreement between the Treasury and the Fed. At issue was the Treasury's request that the Fed return unused money in various lending facilities that were set up earlier this year to help the economy manage through the pandemic. The Fed initially stated that it preferred not to return the money and keep the facility open, but then eventually agreed to Treasury's request.


The episode left investors scratching their heads. Since the global financial crisis, we're used to seeing Treasury and the Fed in sync. So how meaningful was this disagreement? It's unclear that it's a meaningful risk to markets in the short term, but it does say something about the enduring challenges to bipartisanship on the issues that may matter to markets, even as a new administration takes over.


That's because the Treasury/Fed disagreement reflects a broader disagreement among Republicans and Democrats about the ongoing needs of the economy. Key Senate Republicans applauded the Treasury's decision on the basis that the facilities had served their purpose and the money could now be used for more targeted COVID relief. Democrats appear to be on a different page, arguing that the money should stay with the Fed as a backstop and new money should be appropriated for COVID relief. This is a microcosm of the broader disagreement on the size and scope of a COVID stimulus package, where the parties remain about $1.5 trillion apart on the size of a bill.


We think they can eventually overcome this gap on the issue of COVID relief. But the broader point is this: if government control remains divided, no legislation is going to come easy. Investors should give thanks that this might not matter in 2021, as markets will likely be focused on the sustained economic recovery. But they should keep it in mind as a downside risk, because it's not clear that Congress would be able to respond as quickly as they did this past year the next time the economy is shocked.


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A rare open disagreement between the Fed and the Treasury may have policy implications in the longer term. Michael Zezas, Head of U.S. Public Policy Research, explains.

In this Thoughts on the Market series, Michael Zezas offers perspective on how U.S. public policy affects equity and fixed income markets, including trade tensions, infrastructure and government policy. Listen to this week’s update.

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