WASHINGTON (AP) - Desperate to aid an economy in crisis, the Federal
Reserve is ready to deliver yet another big interest rate cut.
How big? One-half of a percentage point, some economists say. Investors and
others hope for even more, a three-quarters cut or perhaps a full point, given
the turmoil on Wall Street. It will be a close call, Fed watchers say.
The speculation ends Tuesday afternoon after Fed Chairman Ben Bernanke and
central bank policymakers have met.
Whatever the decision, for a growing number of analysts, one more rate
reduction will not be the lifeline that pulls the country back from the brink of
the first recession since 2001.
Experts in this camp believe the economy is shrinking now because of the
fallout from the housing and credit debacles. Businesses are shedding jobs, Wall
Street is convulsing, energy prices are skyrocketing and people are reluctant to
spend. Yet these economists say lower interest rates should help cushion the
blows of a recession.
"Many consumers, businesses and investors are simply running scared right
now," economic consultant Carl Tannenbaum said.
The rate-cutting began in September with the goal of shoring up the economy
and reviving spending. The Fed's key rate has fallen from 5.25 percent to 3
percent. The pace picked up measurably in January when, during an eight-day
period, the Fed slashed the rate by 1.25 percentage points. It was the biggest
one-month reduction in a quarter-century.
In response, commercial banks have lowered prime lending rates by
corresponding amounts. The prime rate, now at a nearly three-year low of 6
percent, applies to certain credit cards, home equity lines of credit and other
loans. A cut ordered by the Fed on Tuesday would further drop the prime rate.
Even with the Fed's aggressive moves, economic and financial conditions keep
deteriorating.
The Fed in recent days has taken extraordinary steps to help banks and Wall
Street investment firms survive the stresses of the credit crisis. Financial
institutions have racked up multibillion-dollar losses when mortgage-backed
investments soured with the collapse of the housing market.
On Friday, the Fed used a Depression-era procedure to aid troubled Bear
Stearns Cos. The investment bank, which faced a possible collapse, received a
rescue package from the Fed and JPMorgan Chase & Co. Bear Stearns, which had
made a fortune in mortgage-backed securities, has taken $2.75 billion in
write-downs since last year.
Consultations about the situation continued through the weekend among
representatives from the Fed, Treasury Department, financial institutions and
others. President Bush planned to meet on Monday with his advisory panel on
financial markets, whose members include Bernanke and Treasury Secretary Henry
Paulson. The panel on Thursday recommended stricter regulation of mortgage
lenders as part of a broad effort to prevent a repeat of a credit crisis
threatening to drive the country into recession.
The Fed this past week also said it would pour as much as $200 billion into
big Wall Street banks and investment houses and allow them to put up risky
home-loan packages as collateral. This maneuver was intended to bring sorely
needed relief in the market for mortgage securities. The Fed also has offered as
much as $200 billion in short-term loans to banks and large financial
institutions.
Some economists believe these actions minimize the need for an interest rate
cut of 0.75 percent, or more, on Tuesday.
"I saw it as a bit of a substitute for the super-sized rate cut that the
financial markets are expecting," said Stuart Hoffman, chief economist at PNC
Financial Services Group. Hoffman is predicting a half-point cut.
Battling an ailing economy is the Fed's No. 1 focus now. Yet galloping
prices for oil and gasoline can complicate the job.
High energy prices are a double-edged sword. They threaten to restrain
economic growth because people have less money to spend elsewhere and they can
aggravate inflation by forcing companies to boost prices.
Crude oil prices top $110 a barrel. Gasoline surged to a record national
average of $3.28 a gallon. At a few stations in California and Hawaii, the pump
price has hit $4 a gallon.
At a congressional appearance in late February, Bernanke was asked how the
economy's woes stack up against what the country faced in 2001. "I think there
are some similarities," he said. "But, I guess as a Russian novelist once said,
unhappy families are all unhappy in their own way, and every period of financial
and economic stress has unique characteristics."
The Fed's rate cuts have added to the downward pressure on the value of the
dollar, which recently plunged to a record low against the euro and has fallen
sharply against the Japanese yen. The drooping dollar is stoking fears that
inflation might take off. The weaker dollar could raise the cost of imported
goods entering the U.S. and lead American companies to raise prices as
foreign-made products become more expensive.
To Hoffman, that is a case for going with the half-point rate reduction.
Other analysts believe the situation is so dire that the Fed must cut deeper.
Brian Bethune and Nigel Gault, economists at Global Insight, are among those
predicting a three-quarter point reduction. Given the turmoil on Wall Street,
there even is a chance of a 1 percentage point cut, they said.
Dangerous cracks, meanwhile, are deepening in the job market.
Employers did away with 63,000 jobs in February, the most in five years. It
was the second month in a row in which nervous employers got rid of jobs. With
the economy faltering, economists predicted the unemployment rate -- now at 4.8
percent -- would climb to 5.5 percent by year's end.
Even after Tuesday's expected rate cut, economists predict the Fed's key
rate will head even lower, probably to 2 percent or even lower by the spring or
early summer.
The rate reductions and the government's economic aid plan of tax rebates
and breaks should help economic growth in the second half of this year, analysts
said.
"It we can make it through the first part of this year and then recover,
that would be a remarkable achievement," Tannenbaum said.
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