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To: long-gone who wrote (17223)	9/2/1998 12:37:00 PM
From: Alex	Read Replies (1) \| Respond to of 116893

WHY THE FED CAN'T JUST GO OUT AND CUT RATES By JOHN CRUDELE ------------------------------------------------------------------------ THE solution to the current problem on Wall Street seems so simple. The Federal Reserve should just cut interest rates and the stock market, as it always has, will rally out of the valley of death. Calls for an interest rate reduction intensified yesterday when the Dow Jones industrial average suffered a big fall early in the day. But when the market rallied for a 288-point end-of-session gain, the Federal Reserve Board caught a break. But in the weeks ahead, there will be more calls for Fed action. So why doesn't the Fed just step up and cut rates? Because the Asian crisis makes such a move a lot more complicated than it has ever been in the past. And the political situation in Washington - which, remember, is an unknown for 3the Fed - could make this common tactic uncommonly dangerous. To understand what's going on you have to keep your eye on the value of the U.S. currency. The dollar, which has rallied sharply over the past few months, was down nearly 4 yen for a time yesterday. If you wanted to exchange your dollars for yen yesterday, you would have gotten only 136 yen. Just a couple weeks ago the amount would have been closer to 147. Even with the decline, the dollar is still much stronger against the yen than it has been in recent history. So why worry? The weaker dollar, after all, will help U.S. exports to countries like Japan. The reason to worry has more to do with capital flows - the movement of money between countries. Right now, massive amounts of money have been coming into the U.S. financial markets. Not stocks - the Japanese and others never did much like the American equities market and that's not going to change. But in recent weeks, the economic crisis in Japan and elsewhere in Asia has caused many foreign investors to ship their assets to the U.S. for safekeeping in government bonds. That's the primary reason our bonds have staged a tremendous rally of late and why our interest rates are now down to incredibly low levels. That's where the problem begins. If the Fed were to cut interest rates at a time when the dollar is on the verge of skidding, it could cause a massive amount of capital dislocation. In other words, the Japanese and others might suddenly think another country is a safer haven. It isn't only that they'd end up getting less interest on any bond investments they make here after a Fed rate cut. The main problem occurs if a rate cut weakens the value of the dollar substantially - a very likely outcome. Then foreigners will be afraid of taking large losses when they decide to repatriate their money. Let's say, for instance, a Japanese investor bought U.S. Treasury securities paying, say, 5 percent when the yen was 147 to the dollar. Suddenly, while the money is invested in these bonds, the dollar weakens. Let's say he now needs to sell and can get only 136 yen for the dollars he invested in Treasury bonds just a few weeks ago. The result is a big loss. In fact, the Japanese investor parking money here would have suffered an 8 percent currency loss because of the dollar's recent drop. Foreigners will soon be asking themselves: How does the U.S. turn out to be a safe haven? Since Japanese investors hold many billions of dollars of Washington's IOUs the last thing the U.S. wants to do is create panic selling. If the Japanese were to take even a small portion of their assets out of government bonds en masse, it would cause interest rates here to rise. So what started as an effort by the Fed to cut interest rates could actually have the reverse effect and cause borrowing costs to rise. There is one other thing that needs to be factored in. Independent Counsel Ken Starr will hand over a report alleging that Bill Clinton committed offenses that leave him vulnerable to impeachment. I'm told by sources that the report will be handed over by the end of next week and could even come late this week. The political uncertainty this will likely cause could also hurt the value of the dollar. The political process itself will puzzle foreign investors. But more importantly, the dip in the dollar will make the safe haven of the U.S. seem a little less secure The Fed may still decide to cut interest rates. But as you can see, it really isn't as easy a decision as it seems. ------------------------------------------------------------------------ MORE BUSINESS NEWS nypostonline.com