Robert Kaplan, president of the Federal Reserve Bank of Dallas, spoke with Yahoo Finance on May 6 to discuss his economic outlook and the path ahead for Fed policy as the COVID-19 crisis continues.
Below is a transcript of his appearance:
JULIE HYMAN: We have with us Robert Kaplan. He is the president of the Federal Reserve Bank of Dallas, he's joining us on the phone from Texas. And President Kaplan, it's great to talk to you. Thank you so much for taking the time to talk to us.
ROBERT KAPLAN: Good to talk to you.
JULIE HYMAN: Since you're in Texas, I'd like to start there because that's one of the states where there has been some reopening. And so I'm curious as you look at the economic picture there, the latest Dallas Fed services sector survey for example saw significant downward pressure on wages and prices in April. What then is the reopening going to look like? What is the path going to look like as we see the economy opening back up there?
ROBERT KAPLAN: I think it's going to be very phased and very, very gradual, and a number of prescriptions for social distancing, what type of businesses can open. And I think the question is also: even if businesses are open, will they choose to open? If they're allowed to open, will they choose to open? And I've talked to some business people that say with some of the restrictions they're not sure they can be profitable.
And then the second thing will the consumer, will individuals, what will they choose to do? And so, we're going to learn a lot from this but I think it's gonna be very gradual and very phased in.
BRIAN CHEUNG: Hi President Kaplan, Brian Cheung here. So we already know the picture of employment with that ADP report coming in this morning payrolls falling 20.2 million people. I'm wondering, do you have projections for unemployment on Friday and then what should we expect to see in Q2 and Q3 on GDP if we're already seeing some regions of the country opening up like those in your district.
ROBERT KAPLAN: We're still of the view on GDP that we're going to see a substantial contraction in the second quarter, as much as 25% to 30% annualized, meaning multiply by four. That will start growing in the third quarter and then in the fourth quarter. We think the unemployment rate could get as high as 20% at its peak. And we think we'll likely in the year, closer to probably 8% to 10%. These are rough estimates, and we're going to still have a very elevated level of unemployment at the end of the year.
BRIAN CHEUNG: So what do you think is gonna be the solution from the Fed’s angle to deal with this? So we know that the Federal Reserve has already cut rates to zero, it's got cap-less QE with the balance sheet at $6.7 trillion right now, I mean what would be next for Fed policy to make sure that, after we get those pretty shocking numbers on unemployment on Friday, the best way to kind of dig out of this. Is it going to be a stated pace of quantitative easing? Is it going to be a yield curve control in some form? What types of tools do you think you can see the Fed deploying?
ROBERT KAPLAN: We haven't announced, or said anything publicly about that yet but we'll we'll have to obviously run a very accommodative monetary policy for some extended period of time. And that's going to be have to be combined with fiscal policy in order to help the economy grow faster but you should expect yes, the Fed will do what it needs to do in terms of accommodation to help encourage and stimulate growth.
ADAM SHAPIRO: President Kaplan, hi it's Adam Shapiro, thank you for joining us. You just mentioned, you know your partner in getting this economy back on track which is Congress over which you have no control. And I wanted to ask you, messaging so important with the Fed you're about to launch the Main Street Lending Facility and yet you understand what it means to be a single parent and now the pressures on single parents are even greater. They may not understand how the Fed is helping to try and get through this crisis. So what can the Fed do especially since we're still waiting for Congress to do more fiscal response.
ROBERT KAPLAN: Well, just to be clear what the Fed primarily does, is we've worked on stabilizing markets. We're a lender of last resort. We don't make grants we give loans so the Main Street program is an example of doing lending to mid-sized businesses but we've done, we've now announced a program to lend to municipalities, commercial paper, asset backed securities, corporate bonds. And so we've got a broad range of programs to assure that companies, big and small, will have access to financing.
The thing that we don't do as I said is we don't make grants. That's Congress, and that along with the Treasury. And so that, in addition to the Fed’s lending programs, are going to be important in order to stimulate growth, and work down this unemployment rate.
BRIAN CHEUNG: To expand on that point, there are a lot of energy companies in your district that have been stressed, especially with the WTI crude oil prices having gotten negative two weeks ago. It seemed like there was some interest among energy companies to maybe tap into the Main Street Lending Facility to pay down their debts, I mean the changes that were announced last week in expanding the scope of that Main Street lending facility — do you expect that to have a positive impact on those companies that are in your district really feeling the oil supply and demand shock? Based on your conversations in the district, what do you think the Fed might need to do further if necessary in the future?
ROBERT KAPLAN: The Fed's lending programs are to creditworthy companies, there's an EBITDA test, you know cash flow coverage test, it has to be a loan that would pass already the banks’ lending standards. And so that program will be designed for companies that would be already be creditworthy.
If you're a company on the other hand, that is more highly leveraged than that, concerned about insolvency and other credit issues, it's probably not going to be able to access, it's not going to be able to access those programs. And there will be a substantial number of bankruptcies, restructurings that are going to have to happen, because so much of production is being shut in. And there are a number of companies in this industry, either drillers or service providers that went into this highly leveraged and I think they're going to have to pursue other actions in order to restructure their debt.
JULIE HYMAN: President Kaplan, Julie again. I want to expand beyond energy for just a moment, when you talk about debt loads that not only corporations are taking on right now but individual Americans or business owners, for example, as they borrow to ride out this crisis, I guess my question is, what does that capacity look like? Not the capacity to lend which right now is being shown to be substantial. But the capacity to borrow and then pay back on the part of many of these entities and individuals once we come out of this. And people are either not making as much as they were before or they need to sort of make up that lost revenue and then some right? So I guess I'm just wondering.
ROBERT KAPLAN: That's a big concern in that Corporate America went into this situation already with a historically high level of debt, the household balance sheets were in much better shape, relatively speaking than they were 10-12 years ago. But as we're coming out of this — you’re right to the extent that companies may come out with this more highly leveraged and are going to need to probably at the appropriate time raise substantial amounts of equity I would guess. And the consumer who went into this in very good shape is going to come out of this likely with more debt. And we're going to have to see what the consumer willingness is to spend, and obviously job insecurity with the high level of unemployment is going to limit the ability and desire of consumers to spend.
BRIAN CHEUNG: I mean that's actually a great point about kind of how the household balance sheet factors into this as well. It seems like, Chairman Powell in the press conference last week, said that, you know, Congress should use its “great fiscal power” I think is the terminology that he used to try to make sure that they can make households whole so if we shift from the companies to those people that are still waiting on their stimulus checks or maybe getting in line for UI as we are expecting to see those numbers tomorrow morning. What do you think the fiscal policy should, you know, what do you gauge that it's good enough right now do you think that fiscal policy makers should be doing more to shore up those households for the time being?
ROBERT KAPLAN: So in my job at the central bank, I'm gonna be careful to comment on what fiscal policy specifically is needed, other than to say loans only helped to a point. But people have lost income. And I think grants, fiscal policy in the form of grants, either to individuals or state and local governments or other entities, are going to be necessary. And I'll defer to the fiscal policymakers, but that's got to be part of this is.
ADAM SHAPIRO: It’s Adam Shapiro again, President Kaplan. I'm curious about the consumer and in one of the Dallas Fed monthly papers they talked about the index of future retail activity being less negative than it had been in March, suggesting a less negative outlook over the next six months. When you look back at previous financial downturns, the Great Recession, does the Fed have a sense of how long it takes for the consumer to become confident to start spending again?
ROBERT KAPLAN: Well there's a few parts of this one is: the health aspects. What's it take for the consumer to be willing to go into stores, being in large crowds, resume flying, staying at hotels, doing all the things that they used to do. And that has more to do with testing, what the advances are on a vaccine, medication contact tracing.
Then the second part is the ability to spend and that has a lot to do with consumer debt but most specifically what's the unemployment rate? And so the thing that in particular, we'll be focusing on is trying to grind down that unemployment rate and get back to full employment, and that's going to be critical for the consumers’ willingness and ability to spend
BRIAN CHEUNG: President Kaplan, seemed like a few months ago, before all of this, we were focusing on the Fed’s review of its monetary policy. There was discussion on the table, maybe tweaking the way that you handle inflation. I'm wondering if you could kind of give us a little bit of a sense on where that review is now? Do you see the COVID-19 crisis as maybe pushing the Federal Reserve to change sort of things about its framework on things like inflation on things like forward guidance as it gets through this crisis?
ROBERT KAPLAN: Well, we'll come back to the policy review for obvious reasons we’ve put it off to the side here for the time being. And, you know, I’ll probably defer any comments until we get further down the road but we'll come back to it at the appropriate time. But now is probably not the appropriate time to be focused on that.
BRIAN CHEUNG: And then lastly, we've had a number of other Fed presidents on our programs in the previous weeks and something that I've been asking them is: you have these conversations with contacts, whether that's businesses or households in the Texas area, and I'm wondering what you're telling during this time, right? A lot of people are nervous, there's so much “uncertainty” — is the buzzword that everyone uses — to describe what is an unprecedented event. What are you telling people in your district, about what the Fed’s response is and what they should be expecting in the short- to medium-term.
ROBERT KAPLAN: So, in those conversations I'm doing more asking questions than than anything else. And I think the Fed programs, we’re spending time talking about what the Fed programs are doing, but a lot of my conversations with companies is: they'll go through the same thing whether they're big or small.
What's the demand impact on their business? What's the right sizing for their business? How's your business going to need to change? And also, what's their capital structure and liquidity needs as they go through this? And that's the bulk of my conversations with companies, large and small, is about that. And we're talking that through when they're trying to come to grips with that, so they can make it to the other end of this crisis. The main question they ask me is: how long do you think this is going to go on? And obviously we discuss that at length.
JULIE HYMAN: And unfortunately, none of us knows exactly for sure. Robert Kaplan, thanks so much for being here and giving us your perspective. Mr. Kaplan is the President and CEO of the Federal Reserve Bank of Dallas, thank you again.
ROBERT KAPLAN: Thank you, good to talk to you.