View Full Version : Fed's Big Easing A "Once-In-A-Generation" Event

01-23-2008, 07:30 PM
Fed's big easing a 'once-in-a-generation' event


By Michael M. Grynbaum and John Holusha
Published: January 22, 2008

NEW YORK: The U.S. Federal Reserve, responding to an international stock sell-off and fears about a possible U.S. recession, cut its benchmark interest rate by three-quarters of a percentage point Tuesday, an aggressive move that came a week ahead of a regularly scheduled meeting of the central bank.

The Fed's policy making group, known as the Federal Open Market Committee, lowered its target for the federal funds rate, which regulates overnight loans between banks, to 3.5 percent from 4.25 percent.

The move, unusual in both its scale and its timing, underscored the severity of the current strains facing the U.S. economy.

"It's a once-in-a-generation event," Mark Zandi, chief economist at Moody's Economy.com, said. In recent years, the Fed has rarely acted between scheduled meetings of the committee, and almost always in increments of one-quarter or one-half point. It was the biggest single cut since October 1984.

In a statement, Fed officials said they made the decision to lower rates after "a weakening of the economic outlook" and noted that "broader financial market conditions have continued to deteriorate."

For the shaken world markets, the move seemed to provide some relief. When trading resumed Tuesday after the Martin Luther King Jr. holiday, Wall Street initially joined in the plunge that had shaken Europe and Asia for two days. But after opening down by more than 460 points, the Dow Jones industrial average ended the day off 128.11 points, or 1.06 percent, at 11,971.19.

The Nasdaq composite index fell 47.75 points, or 2 percent, to 2,292.27, while the Standard & Poor's 500-stock index declined 14.69 points, or 1.1 percent, to 1,310.50.

Most European markets came surging back, shaking off early losses to post gains of up to almost 3 percent.

In a related action, the Fed approved a 75 basis-point decrease in the discount rate, to 4 percent.

Futures markets are now expecting the Fed to cut another quarter-point off the federal funds rate at its next regular meeting, which begins Tuesday.

Jan Hatzius, chief U.S. economist at Goldman Sachs, said the timing of the cut, which came after a significant sell-off in Asian and European stocks on Monday, may turn market performance into a referendum on the Fed's move.

"By itself, it's not necessarily a wrong thing to do if you're worried about systemic stability," Hatzius said. "Nevertheless, it's a little tricky because it ties you from a short-term perspective to what happens in the stock market." A sell-off could be viewed as a vote of no confidence from investors, he said.

Economists were divided Tuesday about whether the rate cut would help the economy stave off a recession.

"This is an effort to catch up and get ahead of flagging confidence in the weakening economy," said Zandi, who has criticized the Fed for not responding faster to the current crisis. A smaller cut "might have created more panic among investors," he added. "But the fact that they moved in such a decisive way strongly signals that they are going to work very aggressively to shore up confidence in the economy."

In its statement, the Fed said: "The committee took this action in view of a weakening of the economic outlook and increasing downside risks to growth. While strains in short-term funding markets have eased somewhat, broader financial market conditions have continued to deteriorate and credit has tightened further for some businesses and households."

"Moreover," the Fed continued, "incoming information indicates a deepening of the housing contraction as well as some softening in labor markets."

Fed officials also indicated, albeit obliquely, that they were concerned about a possible U.S. recession. "Appreciable downside risks to growth remain," the Fed said.

The White House maintained a confident face, but clearly worried about the effect of the global sell-off. "Americans should be confident that the long-term health of the American economy remains strong," the press secretary, Dana Perino, said.

"We don't comment on daily fluctuations in the markets," Perino said. She also declined to comment on the Federal Reserve's rate cut, but she did urge the U.S. Congress to move quickly to pass a stimulus measure, saying she hoped one could be passed within "weeks not months."

As the market news broke on a holiday, Treasury Secretary Henry Paulson Jr. called President George W. Bush on Monday afternoon to brief him about what was happening.

Bush was to meet congressional leaders later Tuesday in a session almost certain to be dominated by the economy and the stimulus package. "I'm not going to close off any doors," Perino said when asked about the shape the package might take.

Congressional Democratic leaders said Tuesday that they feel urgency to enact an economic stimulus plan and are confident they can work with President Bush to get one done quickly.

"The urgency that we feel at home is now even more urgent as we see the impact of our markets on others," Nancy Pelosi, the speaker of the House of Representatives, said after lawmakers of both parties met with Bush at the White House, the AP reported.

The jockeying over a legislative package came as the head of the Congressional Budget Office cautioned that stimulating the economy using tax rebates or other fiscal policy measures is not simple or quick, and risks aggravating inflation if the impact arrives after the economy has recovered on its own.

Testifying before the Senate Finance Committee, the official, Peter Orszag, said workload issues at the Internal Revenue Service would prevent the mailing of rebate checks until after the peak tax filing in late May or early June. And then it could take 8 to 10 weeks to distribute the checks, meaning the impact of the action might not be felt until the second half of 2008 or early 2009.

Responding to questions, Orszag said previous efforts to stimulate the U.S. economy showed that lower-income families were more likely to spend extra money soon after receiving it, rather higher income households with the capacity to borrow. He said the key to any program to bolster the economy would be to get the funds to people who will spend it within two months.

He said that any stimulus action should focus on the underlying economy, regardless of what was happening in financial markets, like stock and bond exchanges. In fact, he said, some forecasters are calling for "sluggish growth" this year, rather than a recession, where output actually shrinks for two consecutive quarters.

Paulson, speaking to the U.S. Chamber of Commerce, said Tuesday that the administration and Congress needed to agree quickly on a stimulus package.

"Time is of the essence and the president stands ready to work on a bipartisan basis to enact economic growth legislation as soon as possible," Paulson said.

Paulson said he was optimistic that the administration and legislators could find a bipartisan "common ground" on the economic package and "get this done before winter turns into spring."

He also said he hoped to do something in the next couple of weeks "that will make a difference this year."

He said the Treasury Department was developing a new regulatory framework for subprime and jumbo mortgages because of poor market performance.

Steven Lee Myers contributed reporting.