Saguaro
10-31-2007, 02:34 PM
NEW YORK (CNNMoney.com) -- The Federal Reserve lowered the target for a critical short-term interest rate by a quarter of a point Wednesday, citing continued concerns about weakness in the housing market.
But the Fed indicated that it is also worried about inflation, a possible sign that the central bank may not cut rates again at its next meeting in December.
The Fed's commentary about inflation spooked the markets at first, and stocks gave up much of their earlier gains from the day. But stocks eventually recovered and moved on to hit new highs.
The widely-expected move comes on the heels of a half-point rate cut by the central bank in September and leaves the federal funds rate at 4.5 percent, its lowest level since April 2001.
Not all of the Fed's policy committee members voted in favor of a rate cut, however. Thomas Hoenig, president of the Federal Reserve Bank of Kansas City, preferred no change to the federal funds rate. The Fed also lowered its largely symbolic discount rate by a quarter of a point to 5 percent. That decision was unanimous.
The federal funds rate, an overnight lending rate for banks, is important to the economy since it influences how much interest consumers pay on credit card debt, home equity lines of credit and auto loans. It also impacts how much it costs corporations to borrow money.
Weakness in the housing market and problems with subprime mortgages - loans made to those with less-than-perfect credit - have led to billions of dollars in writedowns at major financial institutions. For this reason, most investors believed the Fed would lower rates again in an attempt to limit the mortgage meltdown's spillover into the broader economy.
The Fed acknowledged the danger of the housing problems. "[T]he pace of economic expansion will likely slow in the near term, partly reflecting the intensification of the housing correction," the Fed said in its closely watched statement.
"Housing will continue to be a drag," said Thomas di Galoma, head of U.S. Treasury trading with Jefferies & Co.
"If the Fed sees weaker housing data, they probably will drop rates another quarter point later this year. In the back of everyone's mind, people are wondering how will banks and brokers come out of this. Those fears are not going away overnight," di Galoma added.
But the Fed also said that it felt Wednesday's rate cut, combined with the rate cut in September, "should help forestall some of the adverse effects on the broader economy that might otherwise arise from the disruptions in financial markets."
And some market observers have expressed concerns that with oil prices rising above $90, inflation may still be a threat. So the Fed could be making a mistake by lowering interest rates further, some maintain.
With the dollar weakening against other global currencies, some fear that further rate cuts could fuel even more inflationary pressures.
"This is a hemlock situation. The rate cuts will be self-defeating," said Haag Sherman, co-founder and managing director of Salient Partners, an asset management division of investment bank Sanders Morris Harris Group. "The more you cut rates, the more dollar depreciation you will see and ultimately more pressure on commodity prices like oil and gold."
To that end, the Fed said in its statement that "recent increases in energy and commodity prices, among other factors, may put renewed upward pressure on inflation."
Quincy Krosby, chief investment strategist at the Hartford, said that she was not surprised to see the Fed talk more about inflation.
"I figured that if the Fed cut by a quarter of a point as the market expected, the statement would be more hawkish about inflation. The Fed had to balance their actions and words. You can't have oil at $94 and pretend it didn't happen," she said.
But she added that the Fed is not closing the door on further rate cuts. Rather, she thinks the central bank is trying to gain some control over the market and re-establish that it, and not Wall Street, will dictate what happens to interest rates in the future.
Some have criticized the Fed for responding to pressure from investors to cut rates and have argued that the rate cuts may be bailing out people who made poor decisions.
"In a market like this, you don't want to surprise investors. Nonetheless, this gives Bernanke more flexibility," Crosby said. "I do expect more rate cuts down the road as the housing market affects consumer spending and psychology. But this gives the Fed more flexibility and allows them to have some distance from the market."
http://money.cnn.com/2007/10/31/news/economy/fed_rates/index.htm?postversion=2007103114
But the Fed indicated that it is also worried about inflation, a possible sign that the central bank may not cut rates again at its next meeting in December.
The Fed's commentary about inflation spooked the markets at first, and stocks gave up much of their earlier gains from the day. But stocks eventually recovered and moved on to hit new highs.
The widely-expected move comes on the heels of a half-point rate cut by the central bank in September and leaves the federal funds rate at 4.5 percent, its lowest level since April 2001.
Not all of the Fed's policy committee members voted in favor of a rate cut, however. Thomas Hoenig, president of the Federal Reserve Bank of Kansas City, preferred no change to the federal funds rate. The Fed also lowered its largely symbolic discount rate by a quarter of a point to 5 percent. That decision was unanimous.
The federal funds rate, an overnight lending rate for banks, is important to the economy since it influences how much interest consumers pay on credit card debt, home equity lines of credit and auto loans. It also impacts how much it costs corporations to borrow money.
Weakness in the housing market and problems with subprime mortgages - loans made to those with less-than-perfect credit - have led to billions of dollars in writedowns at major financial institutions. For this reason, most investors believed the Fed would lower rates again in an attempt to limit the mortgage meltdown's spillover into the broader economy.
The Fed acknowledged the danger of the housing problems. "[T]he pace of economic expansion will likely slow in the near term, partly reflecting the intensification of the housing correction," the Fed said in its closely watched statement.
"Housing will continue to be a drag," said Thomas di Galoma, head of U.S. Treasury trading with Jefferies & Co.
"If the Fed sees weaker housing data, they probably will drop rates another quarter point later this year. In the back of everyone's mind, people are wondering how will banks and brokers come out of this. Those fears are not going away overnight," di Galoma added.
But the Fed also said that it felt Wednesday's rate cut, combined with the rate cut in September, "should help forestall some of the adverse effects on the broader economy that might otherwise arise from the disruptions in financial markets."
And some market observers have expressed concerns that with oil prices rising above $90, inflation may still be a threat. So the Fed could be making a mistake by lowering interest rates further, some maintain.
With the dollar weakening against other global currencies, some fear that further rate cuts could fuel even more inflationary pressures.
"This is a hemlock situation. The rate cuts will be self-defeating," said Haag Sherman, co-founder and managing director of Salient Partners, an asset management division of investment bank Sanders Morris Harris Group. "The more you cut rates, the more dollar depreciation you will see and ultimately more pressure on commodity prices like oil and gold."
To that end, the Fed said in its statement that "recent increases in energy and commodity prices, among other factors, may put renewed upward pressure on inflation."
Quincy Krosby, chief investment strategist at the Hartford, said that she was not surprised to see the Fed talk more about inflation.
"I figured that if the Fed cut by a quarter of a point as the market expected, the statement would be more hawkish about inflation. The Fed had to balance their actions and words. You can't have oil at $94 and pretend it didn't happen," she said.
But she added that the Fed is not closing the door on further rate cuts. Rather, she thinks the central bank is trying to gain some control over the market and re-establish that it, and not Wall Street, will dictate what happens to interest rates in the future.
Some have criticized the Fed for responding to pressure from investors to cut rates and have argued that the rate cuts may be bailing out people who made poor decisions.
"In a market like this, you don't want to surprise investors. Nonetheless, this gives Bernanke more flexibility," Crosby said. "I do expect more rate cuts down the road as the housing market affects consumer spending and psychology. But this gives the Fed more flexibility and allows them to have some distance from the market."
http://money.cnn.com/2007/10/31/news/economy/fed_rates/index.htm?postversion=2007103114