Fed Cuts Rates Even Though Data Show Economy’s Strong
WASHINGTON _ The Federal Reserve lowered its benchmark interest rate by a quarter-point to 4.50 percent Wednesday, moving to spark the U.S. economy amid conflicting economic signals.
Oil prices resumed their climb toward $100 a barrel, boosting the threat of inflation, and the Commerce Department reported stronger-than-expected third-quarter growth at a robust 3.9 percent annual rate, raising questions about the need for a rate cut.
Commercial banks immediately lowered their prime lending rate _ which they charge for loans to their best customers _ to 4.50 percent as well.
Stocks rallied on the Fed’s rate reduction. The Dow Jones Industrial Average rose 137.54 points to close up 1 percent at 13,930, and the S&P 500 rose 18.36 points, or 1.2 percent, to close at 1549.38.
Significantly, the vote by the Federal Open Market Committee, the central bank’s policy-making body, wasn’t unanimous. Thomas M. Hoenig, the president of the Kansas City Fed bank, voted against the action, saying the Fed should have left its federal funds rate where it was. That’s the rate that banks charge each other for overnight loans. It influences a range of consumer and business lending rates.
In the language of the statement announcing the decision, FOMC members signaled that they don’t envision another rate cut when the Fed holds its final monetary policy meeting of the year on Dec. 11. The Fed statement said “the upside risks to inflation roughly balance the downside risks to growth.”
That means the Fed thinks it’s put short-term lending rates where the risks of inflation and an economic downturn are evenly balanced.
“Clearly, the message from the Fed is, `We’ve cut today, but we’re not preprogramming any rate cuts for the future,’ ” said Nigel Gault, U.S. economist for forecaster Global Insight of Lexington, Mass.
In the months ahead, Bank of America Securities economist Peter Kretzmer said, the Fed will need to see “rather pronounced economic slowing and continued labor market deceleration to lead to further easing.”
Evidence of such a slowdown was nowhere to be found in third-quarter economic data released by the Commerce Department. Growth from July to September was 3.9 percent; outside of housing, the rest of the economy grew at more than a 5 percent annual rate.
Those strong numbers raised the question of whether a rate reduction was necessary at all. After all, growth fuels inflation, as do soaring oil prices, and one of the Fed’s chief responsibilities is to choke off inflation before it flares.
Fed Chairman Ben Bernanke and FOMC members acknowledged the strong growth figures but said the rate cut was necessary to head off a slump in the near future rooted in weak housing finance.
“The pace of economic expansion will likely slow in the near term, partly reflecting the intensification of the housing correction,” the Fed statement said. “Today’s action, combined with the policy action taken in September” _ a half-point rate cut _ “should help forestall some of the adverse effects on the broader economy that might otherwise arise from the disruptions in financial markets and promote moderate growth over time.”
Housing is expected to be even more of a drag on the economy in months ahead as up to 2 million problematic adjustable-rate mortgages reset to sharply higher monthly rates over the next year. Sizzling export growth also is expected to slow, as is commercial construction. Measures of consumer confidence point to weaker consumption, which drives two-thirds of the economy.
“My general feeling is there is still enough evidence over the winter that they’ll want to cut again, but not in December,” said David Wyss, chief economist for Standard and Poor’s in New York. “The consumer is sitting a little bit scared.”
While the rate-cut news was good for stocks, it was bad for oil prices.
After falling by $3 a barrel Tuesday, oil prices roared back Wednesday, up by more than $4 to close at $94.30 on the New York Mercantile Exchange.
By lowering interest rates, the Fed weakened an already slumping dollar, an important reason behind today’s high oil prices. Oil generally is traded in dollar-denominated contracts, so as the dollar falls against other currencies, oil producers demand higher prices to offset the lost value in converting dollars to their local currency.
Some experts viewed the Fed’s signal Wednesday that it won’t raise rates again as a message to Wall Street that the Fed isn’t the pliant tool of banks beleaguered by the credit crunch.
“I believe this was a little bit of a declaration of independence,” Robert McTeer, a former president of the Federal Reserve Bank of Dallas, said in an interview on CNBC.
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(c) 2007, McClatchy-Tribune Information Services.
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GRAPHICS (from MCT Graphics, 202-383-6064): 20071031 GDP and 20071031 FED rates
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