"This is a liquidity crunch, but the backdrop isn't as dangerous as for the GFC. There's not as much leverage within the financial system or corporate sector and we're not yet at risk of major institutions going under."

Confidence gone

The market's primal fear is the world now faces a Keynesian liquidity trap where consumers won't spend or borrow despite ultra-low rates as confidence in the financial system is smashed - partly by the coronavirus's wrecking ball effect.

Federal Reserve chairman Jerome Powell is expected to take rates to zero to stop credit markets drying up. Bloomberg

Adding to the psychological implosion is a multiplier effect as yields on money market instruments and benchmark government debt are now so low that more money supply via rate cuts cannot stimulate growth or inflation. Confidence, not liquidity, is the problem with rates close to zero.

The US Fed is expected to take cash rates to 0 per cent within weeks, with the European Central Bank negative and the Bank of England at 0.25 per cent as of last Wednesday. According to futures pricing the RBA is certain to cut rates to 0.25 per cent on April 7.

"This global growth shock due to COVID-19 has once again brought the structural issues of debt, demographics and disinflation to the fore," wrote Morgan Stanley's global head of economics Chetan Ahya.

"As central banks have continued to utilise their monetary policy tools to manage the mini-cycles, and against a backdrop of declining natural rates, we are now at a stage where there is far more limited room for monetary policy to support/drive another meaningful mini-cycle recovery."


This week US Fed chair Jerome Powell announced he's ready to inject $US1.5 trillion of additional liquidity into credit and short-term funding markets that are key to confidence in the financial system.

Australia's Reserve Bank has also injected liquidity into the banking sector via more repo lending to keep credit flowing into the wider economy.

Hasan Tevfik said the Fed is worried about a GFC-style liquidity crunch again. Christopher Pearce

"The Fed's announcement suggests liquidity's drying up, banks aren't dealing with each other and the fear is they won't deal with the broader economy. What they [the Fed] did last night is like 2008," said Mr Tevfik.

"There's a clear tightness in funding markets here, we hear stories of US companies with liquidity facilities at banks drawing down those facilities now in fear of not being able to tap them later".

Banks in firing line

Last Wednesday Reserve Bank deputy governor Guy Debelle warned in a speech at The Australian Financial Review's Business Summit that the central bank is already monitoring for signs the spread between Australia's bank bill swap rate (BBSW) and the overnight cash rate is blowing out too far.

Guy Debelle at The Australian Financial Review Business Summit in Sydney on Wednesday. He says the RBA is monitoring the spread between BBSW and the cash rate. Louie Douvis


The fallout from GFC-like worries over the banks' liquidity has sent big banks stocks down more than 20 per cent this week, as a flatlining yield curve pressures the heart of their traditional lend long, borrow short, business model.

Other popular companies vulnerable to abnormally-low interest rates such as Challenger, Link Administration, Computershare, the major insurers, and fintech platform providers have also seen valuations eviscerated this week.

Rising fintech star and major short-term borrower Afterpay also moved to reassure investors on Friday that its balance sheet is not at risk, as its warehouse lending facilities are not subject to traditional lending covenants.

For the banks the strength of of house prices and ability of borrowers to service debt remains the keystone underpinning operating profitability. However, if bad debts rise, it's harder to repay their borrowings.

It would only take a significant decline in the market value of home loans on a bank's balance sheet to threaten its entire solvency.

Australian banks already trade on far higher price-to-book multiples than European peers that have delivered shareholders abysmal returns through the ultra-low interest rate environment since the GFC of 2009.

Morgan Stanley's Chetan Ahya believes the only escape route from the crisis is major fiscal easing, in particular to support the burden on the healthcare system and provide a demand boost.