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Shedding Light on the Latest Fed Rate Cut

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Shedding Light on the Latest Fed Rate Cut

Economy

Shedding Light on the Latest Fed Rate Cut

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MELISSA BLOCK, host:

From NPR News, this is ALL THINGS CONSIDERED. I'm Melissa Block.

MICHELE NORRIS, host:

And I'm Michele Norris.

Today the stock market rallied on a couple of decent earnings reports and a cut and a key lending rate. The S&P 500 Index rose more than 4 percent, the biggest gain in five years. Federal Reserve policymakers cut the Federal funds rate by three-quarters of a percentage point. The cut was less what many of the financial market wide but it was still an aggressive move by historic standards.

And coming after the Fed's recent decision to extend loans to Wall Street investment firms, the cut underscores how concerned most Fed officials are about the economic slowdown.

NPR's Jim Zarroli reports.

JIM ZARROLI: The Fed said the outlook for economic activity has weakened. Consumer spending has slowed and labor markets have softened. Meanwhile, credit conditions have tightened and housing activity has contracted. And all of that is likely to weigh on growth for months ahead. Stuart Hoffman, chief economist at PNC Financial Services noted that the rate cut comes after other Fed moves this weekend. The extension of credit and new kinds of financial institutions and the forced acquisition of investment bank Bear Stearns.

Mr. STUART HOFFMAN (Chief Economist, PNC Financial Services): The Fed is using sort of the blunt force of a funds rate cut to help provide growth and help to the economy, at the same time, augmenting that with these other very specific types of activities to provide liquidity where it's needed most.

ZARROLI: The statement also said downside risks to economic growth remain, which is usually taken to mean that the Fed may cut rates even more. But the statement also included some anxious words about price pressures. It said inflation has been elevated and some indicators of inflation expectations have risen. That suggest some Fed members may have been ambivalent about the size of the cut. And indeed, two members dissented, saying they wanted less aggressive moves.

Mr. HOFFMAN: When you get two dissents, this was probably a very dicey discussion, and I think this was a good result and a good compromise.

ZARROLI: The cut this afternoon is the second of that size this year. It brings the rate down to 2.45 percent; it was five and a quarter as recently as last September. Fed officials are hoping that by making money cheaper to borrow, they'll encourage investment and keep the economy from tipping into a recession - if it's not already there.

But economist Richard Yamarone of Argus Research believes the cuts in interest rates are a mistake. He says the problem right now isn't that money is too expensive. Yamarone says the real problem is widespread mortgage-market losses, which have hurt confidence in the major banks and made people nervous about investing in the U.S. economy.

Mr. RICHARD YAMARONE (Economist, Argus Research): Many of these balance sheets in these Wall Street trading firms have worthless paper, and - but the Fed cutting the fed funds rate by 75 basis points is not going to cure that.

ZARROLI: In fact, Yamarone says the steady drop in rates may actually hurt the economy in the long run. Federal Reserve officials kept interest rates artificially low after 9/11. And that helped create the housing bubble. Yamarone says the same thing may be happening now.

Mr. YAMARONE: Excessive rate cuts like this are what brought the current hangover, and that Bernanke Fed just gave us a little hair of the dog that bit us.

ZARROLI: But, that's the minority view right now. Most economists say the sharp slowdown in growth and the troubles in the banking sector represent a big threat to the economy. Fed policymakers, they say, need to do whatever it takes to avert that.

Jim Zarroli, NPR News, New York.

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