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Fed makes quarter-point cut, leaves door open for more easing

Fed makes quarter-point cut, leaves door open for more easing
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First Published: Wed, Dec 12 2007. 10 19 AM IST
Updated: Wed, Dec 12 2007. 10 19 AM IST
Washington: The Federal Reserve cut key short-term rates by a quarter point in the third move since September in an effort to cushion the economy from the slump in housing and credit market turmoil.
The US central bank Tuesday trimmed its federal funds rate to 4.25% and offered a glum economic outlook that leaves the door open to more reductions in the coming months.
It also cut the discount rate, the central bank’s lending rate to commercial banks, by a quarter point to 4.75%, despite some analyst forecasts for a sharper cut to help stimulate credit flows.
The Federal Open Market Committee (FOMC) voted 9-1 in favour of the action, with one member supporting a half-point reduction.
“Incoming information suggests that economic growth is slowing, reflecting the intensification of the housing correction and some softening in business and consumer spending,” the panel said in a statement announcing the decision.
“Moreover, strains in financial markets have increased in recent weeks. Today’s action, combined with the policy actions taken earlier, should help promote moderate growth over time.”
Even though the world’s biggest economy has managed solid growth over the second and third quarters of 2007, some analysts say the Fed must be prepared for a downshift in the face of tight credit and a worsening housing slump.
The panel headed by Fed chairman Ben Bernanke agreed on the need for a reduction in rates. But voting against was Boston Fed chief Eric Rosengren, who wanted to lower the federal funds rate by 50 basis points.
Wall Street sold off sharply immediately after the announcement, apparently concerned that the Fed acknowledged deeper economic problems but only made an incremental rate move.
“A quarter point isn’t a heck of a lot and the stock market is concerned there isn’t enough liquidity,” said Robert MacIntosh, chief economist at Eaton Vance. “I just don’t know what a quarter point will accomplish.”
But Scott Anderson, senior economist at Wells Fargo, called the move “a balanced and proper risk management decision to mitigate the downside risks to growth but cognizant of the fact that panicked or aggressive cuts might end up doing more harm than good.”
Anderson said the Fed’s statement “took out the balanced assessment of risks and seemed to focus on the deterioration of financial market conditions”.
As a result, he said, “I think this opens the door for further cuts down the road.”
Keith Hembre, chief economist for First American Funds, said the move was consistent with the Fed outlook for slower growth in the coming quarters but no recession.
“It boils down to what your intermediate term outlook is,” Hembre said. “The Fed continues to have a somewhat favorable intermediate to longer-term outlook. We have a less favorable forecast.”
Diane Swonk, chief economist at Mesirow Financial, said the Fed is providing stimulus to the economy but that the statement and indications of dissent at the FOMC may be sending conflicting signals to financial markets.
“I would have preferred a shorter, more decisive statement,” she said. “I would have preferred 50 basis points on the discount rate which would make a statement about being a lender of last resort.”
Robert Brusca at FAO Economics agreed that the Fed failed to calm financial markets with its statement, even though the decision had been widely expected.
“The Fed’s actions and its rhetoric do not seem to be very consistent,” Brusca said. “Bonds are trading like recession is becoming likely. Stocks are losing their optimism.”
Some analysts argue the Fed will have a hard time rescuing the economy from the ravages of a credit crunch that has banks retrenching, curbing lending even to other banks.
“The FOMC is swimming upstream vigorously, but is barely making progress against a stiff downstream current,” said Brian Bethune, economist at Global Insight.
“Only top-rated prime borrowers have seen a reduction in effective borrowing rates since the financial market crisis erupted in August 2007.”
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First Published: Wed, Dec 12 2007. 10 19 AM IST
More Topics: US | Economy | Bank | Rate | Federal Reserve |