U.S. Economy: Fed Cuts Rates to Preserve Expansion
from Bloomberg
By Noam Neusner and Vincent Del Giudice
Washington, Jan. 3 (Bloomberg) -- Federal Reserve policy- makers cut the benchmark U.S. interest rate a half point to 6 percent in a surprise move aimed at preserving the record economic expansion.
In a conference call arranged by Fed Chairman Alan Greenspan, the central bank's Open Market Committee reduced its target interest rate on overnight loans for the first time in two years, citing ``further weakening of sales and production'' and dwindling consumer confidence. The Fed acted four weeks before a scheduled meeting on rates.
``It's a loud and clear message that there's not going to be a recession,'' said Stephen Slifer, chief economist at Lehman Brothers in New York. ``The Fed stands ready to do whatever's necessary to make sure nothing bad happens.'' The rate cut was the largest between meetings since the 1991 recession.
Stocks soared on the news, with the Nasdaq Composite Index posting a record 14 percent rise. Investors had fled stocks in recent months as dozens of companies, from household goods maker Whirlpool Corp. to No. 1 software company Microsoft Corp., said profit growth would slow and an index of consumer confidence dropped to 128.3 in December -- the lowest in two years.
The rate cut should boost the economy by making it cheaper for businesses and consumers to borrow. ``It's in the right direction and none too soon,'' said Jack Welch, chairman and chief executive officer of General Electric Co.
Falling Rates
Mortgage rates, which have been falling for eight months, may fall further, giving a boost to homebuyers. The average rate on a 30-year fixed mortgage fell to 7.13 percent last week, a 19-month low. J.P. Morgan Chase & Co., Wells Fargo & CO. and other banks dropped their prime lending rates, the benchmark for loans to their best customers, to 9 percent from 9.5 percent. And the spread between 10-year Treasury note and investment grade corporate bonds narrowed almost a quarter percentage point to its lowest since July 24.
Investors also expect the Fed will cut the overnight bank rate another quarter point at the Jan. 30-31 policy meeting. The implied yield on the February fed funds futures contract fell 29 basis points to 5.74 percent.
The decision came a day after an industry survey showed that U.S. manufacturing slumped in December to its lowest point since the end of the last recession and the Nasdaq posted its seventh- biggest loss, as last year's 39 percent plunge in the index extended into 2001.
The last time the Fed cut rates between meetings was in October 1998, the second of three reductions tied to financial market upheavals following Russia's default on its debt. And the last time the Fed cut the overnight rate a half point between meetings was in February 1991.
Bush Economic Meeting
The Fed's decision came while President-elect George W. Bush was meeting with corporate executives in Texas to discuss the economy, and comes two weeks before he takes office. ``Today Alan Greenspan was mindful of the warning signs by taking a bold step'' that was needed, Bush said, to make sure the U.S. economy ``does not go into a tailspin.''
That takes away any complaint Bush might make that he was hamstrung by a weakening economy, analysts said. ``Now, George W. Bush no longer can blame the Fed if the economy continues to spiral,'' said Marshall Wittmann, a Hudson Institute political analyst.
Bush's father, George Bush, lost his bid for re-election as president in 1992 as the economy was slow to recover from the last recession. The former president blamed the Fed for failing to cut rates fast enough.
``The nightmare scenario would have been if Greenspan had stiffed the son as he did the father,'' Wittmann said.
Discount Rate Cut
The Fed's Board of Governors also voted to cut the discount rate on direct loans to banks from the Fed system by a quarter percentage point to 5.75 percent and ``stands ready to approve'' a further quarter-point reduction, the statement said. Although few banks borrow directly from the Fed to meet their cash reserve requirements, the central bank generally keeps the discount rate within 50 basis points of the overnight bank rate.
Fed officials said they were more concerned about the risk the economy was slowing excessively than that inflation might pick up. ``Inflation pressures remain contained,'' the Fed said in its statement. Moreover, ``there is little evidence to suggest that longer-term advances in technology and associated gains in productivity are abating.''
The possibility of a between-meeting cut was telegraphed on Dec. 19, when the Fed voted to hold rates steady, and, citing the risk of further weakness, said in a statement it ``will continue to monitor closely the evolving economic situation.''
Some investors had been betting that the Fed would hold off on cutting rates until its Jan. 30-31 meeting, and follow that with another cut by April.
Signs of Weakness
Growing signs of economic weakness may have accelerated the Fed's schedule, however. Gross domestic product, which rose at a 5.6 percent annual rate in the second quarter, expanded at a 2.2 percent pace in the third quarter, the slowest in four years. Analysts surveyed by Bloomberg News expect fourth-quarter GDP to rise at a 2.7 percent rate.
Industrial production fell in October and November, the first two-month decline since mid-1998. General Motors Corp., Ford Motor Co. and DaimlerChrysler AG reported today that their December sales of U.S. vehicles fell by 15 percent or more as winter storms and declining confidence kept buyers away from car lots.
Retail sales fell in November, the first monthly decline in seven months. Those warnings, in turn, have cooled investor optimism. Meanwhile, companies are having a harder time making their debt payments.
``Pockets of weakness have emerged, especially in large syndicated credits,'' Greenspan said Dec. 5. ``I believe that these developments are inducing more realistic assessments of risks by banking organizations.''
Best Regards, J.T. |
