U.S. rate cut still a distant prospect
07:27 a.m. Aug 29, 1998 Eastern
By Caren Bohan
WASHINGTON (Reuters) - The Federal Reserve may look seriously at easing interest rates to quell the financial firestorm raging through world markets but any cuts are unlikely in the immediate future, analysts say.
''If the Fed were to lower rates now, it would be an admission that they see a threat,'' said Pierre Ellis, senior economist at Primark Decision Economics in New York. ''This is a time when the best thing for the central bank to do is to exude confidence.''
With Russia on the verge of economic collapse and Asia's economic contagion spreading rapidly to emerging economies around the globe, speculation has arisen that the Fed may try to stem the carnage by reducing U.S. interest rates.
Proponents argue such a move could throw a lifeline to Latin American countries such as Brazil, which are viewed as the next potential victims of the crisis.
Those countries have been threatened by capital flight as worried investors rush toward the safe haven of dollar-based fixed income securities. A cut in U.S. interest rates would reduce the return on those dollar-based assets and presumably make them less attractive to investors.
Rate cuts could also shore up the major equity markets, including the U.S. market, which have been hammered by a darkening outlook for global corporate profits.
But analysts said fear of adding too much kick to a domestic U.S. economy that at least right now appears strong, would be enough to persuade the Fed to stay on hold for a while.
A desire to avoid any kind of drastic action that could send a signal of panic to investors would also bolster the case for leaving rates unchanged.
Although many saw a near-term rate cut as unlikely, Primark's Ellis and other economists said they would not rule out an emergency move by the Fed to inject liquidity into the financial system should the turmoil reach the proportions of the 1987 stock market crash.
In any case, experts said a rate rise was probably out of the question for a while even though just over a month ago Fed Chairman Alan Greenspan, in his major, twice-yearly appearance before Congress, warned that tighter credit might be needed to ward off inflation.
Greenspan said in the congressional appearance that inflation was a greater threat to the United States than a potential downturn, and he pointed to the very tight job market as a source of his concern.
Roger Kubarych of the New York consulting firm Kaufman and Kubarych Advisers said worries about inflation stemming from the tight labor market were based on rigid ''textbook'' theories about the economy that ignored the reality of falling global prices.
''All of the risk of inflation has been superseded by the collapse in commodity prices,'' Kubarych said, referring to sharp declines in prices of oil and other commodities amid plummeting demand from crisis-torn regions such as Asia.
The tenor of the debate about U.S. interest rates has shifted markedly in the wake of a sell-off in world financial markets that took the Dow Jones industrial average down by more than 4 percent on Thursday. Selling continued on Friday.
A Friday editorial by the New York Times echoed the growing calls by some private economists for the Fed to look at the possibility of reducing interest rates. The editorial said such a move may be necessary for ''preventing a worldwide downturn.''
Amid the carnage in the markets, Greenspan and many of his fellow policymakers were attending an elite academic symposium sponsored every year by the Kansas City Fed Bank in Jackson Hole, Wyoming. As usual, they kept their thinking on interest rates mostly to themselves.
But in an interview with Reuters at the Wyoming symposium, William Poole, president of the Federal Reserve Bank of St. Louis urged a ''wait and see'' approach by the Fed as he played down fears of an economic overheating.
Such comments were viewed in financial markets as a significant signal of a shift in views because Poole, who has a reputation for staunch anti-inflation views, just three months ago cast a dissenting vote for higher interest rates against a majority of Fed policymakers who wanted to keep rates steady.
Copyright 1998 Reuters Limited |
