The Federal Reserve Tuesday slashed its base federal funds rate by a half point to 4.75 percent, in what analysts called a bold move to stimulate an economy imperilled by housing and credit market stress.
The Federal Open Market Committee, in a unanimous decision after a one-day meeting, also cut its discount rate for direct central bank loans by 50 basis points to 5.25 percent.
"Today''s action is intended to help forestall some of the adverse effects on the broader economy that might otherwise arise from the disruptions in financial markets and to promote moderate growth over time," the FOMC said in a statement.
The statement said that despite "moderate" economic growth in the first half, tighter credit conditions create a "potential to intensify the housing correction and to restrain economic growth more generally."
The cut in the federal funds rate is likely to lead to a lowering of borrowing costs across the economy, for consumers and businesses alike. The Fed, which has not cut rates since 2003, had held this rate at 5.25 percent since June 2006. "I think the Fed delivered a healthy dose of monetary medicine to the economy and housing market," said Scott Anderson, senior economist at Wells Fargo.
"I think it will be viewed as an aggressive move by the Fed to avert an economic recession." The policy-setting committee, which was forced to reconsider its tough monetary stand when financial markets were roiled by fears of a wider economic crisis, had been widely expected to cut interest rates.
But analysts had been divided on whether the central bank would move by a quarter point or a bolder 50 basis points. Some economists said a cut might fuel inflation or bring back the easy-money conditions that created the problems. "Readings on core inflation have improved modestly this year," the FOMC said.
"However, the Committee judges that some inflation risks remain, and it will continue to monitor inflation developments carefully." The panel said developments in financial markets since the last regular meeting "have increased the uncertainty surrounding the economic outlook" and that it would "continue to assess the effects of these and other developments on economic prospects and will act as needed to foster price stability and sustainable economic growth."
The wording suggests the central bank is not promising further rate cuts but would wait to see if economic and credit conditions return to normal, said analysts. "It''s a signal that they''ll assess the economic risks as the data come in," said Craig Alexander, deputy chief economist at TD Bank Financial Group.
"It may be the Fed does not want the market to price in a major easing cycle." Avery Shenfeld, economist at CIBC World Markets, said that although the Fed is trying to send a message not to count on any more reductions, "I doubt the Fed is done. I think they are right and that the economy is softening."
Andrew Busch, analyst at BMO Financial Markets, said however that the rate cut is a rescue for those who "made poor credit decisions without the consequences of market discipline."
"Like a teenager with a car and no curfew, we''ll be having more problems down the road from these actions. But for now, who cares? Everyone''s happy and it keeps the politicians at bay," Busch added. The US economy expanded at a robust 4.0 percent pace in the second quarter, but many experts view that as a statistical fluke that belies soft conditions.
The loss of 4,000 jobs in August, say some, point to deep problems as the housing slump and credit problems drag on growth. In August, the Fed announced a half-point cut in its discount rate in an effort to open credit markets and reduce the stigma associated with direct loans from the central bank.
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