UNITED STATES

Fed: time for a rate break?

Thursday 01 May 2008

Seven months after the Federal Reserve began hacking away at interest rates in a bid to rev up a stalling US economy, the question now is whether the central bank’s lumberjacks feel they’ve cleared enough debris to justify taking a breather.

Chop. Cut. Cut. Slash. Chop. Slash. Cut….Pause?

Seven months after the Federal Reserve began hacking away at interest rates in a bid to rev up a stalling US economy, the question now is whether the central bank’s lumberjacks feel they’ve cleared enough debris to justify taking a breather.
 
 
Wednesday’s quarter-point reduction in the Federal funds rate (which governs the cost of lending among banks) already suggests an easing of sorts from the full-throttle cuts of the three previous sessions.
 
 
Since January 22, the Fed has twice lowered rates by 0.75% and once by 0.50%.
 
 
Altogether, we’ve seen borrowing costs come down 3.25% over the course of seven rate cuts since last September.
 
 
As the Wall Street Journal observes, that’s even more aggressive slashing than what we saw in the first eight months of 2001 - before 9/11.
 
 
The view from the trading floor is that the Fed may feel the time has come to assess the impact of its monetary medicine, while also awaiting a hoped-for boost from $110 billion in tax rebates that the Internal Revenue Service began sending out this week.
 
 
But on closer inspection, the Fed was less than categorical about its intentions.
 
 
Basically, it’s seeking to hedge its bets in the event that economic erosion worsens in the months ahead, and cheaper money is deemed necessary.
 
 
The Fed took pains to point out on Wednesday that while a worst-case scenario for the economy seems to have been averted, the overall picture is hardly hunky-dory.
 
 
Credit is still in short supply as banks struggle to rebuild trust and housing prices remain in retreat. (Prices for new homes in 20 big cities fell at an annual rate of some 12.7% in February, according to a key housing index.) The number of people defaulting on mortgages almost doubled in the first three months of the year – and an estimated two million Americans stand to lose their homes. Bloomberg News reports that 650,000 properties “were in some stage of foreclosure during the quarter”.
 
 
That spells lots of uncertainty ahead as bread-and-butter issues remain the biggest worry for many Americans.
 
 
The US economy grew by only 0.6% in the first quarter, a repeat of its anemic performance in the previous three-month period. But the fine print is more revealing. As the Financial Times notes, real consumer spending weakened while investment declined in the quarter.
 
 
And more bad news could be on the way. US government data due out Friday is expected to show that the economy has shed more jobs.
 
 
It may be a bit early for the Fed’s lumberjacks to lay down their saws.