Fed Lowers Benchmark Rate to 4.75 Percent, First Cut Since 2003
Fed Lowers Benchmark Rate to 4.75 Percent, First Cut Since 2003
2007-09-18 14:15 (New York)
By Scott Lanman and Craig Torres
Sept. 18 (Bloomberg) -- The Federal Reserve lowered its
benchmark interest rate by a half point to 4.75 percent, the
first cut in four years, hoping to keep the U.S. from sinking
into a recession sparked by spreading housing-market fallout.
``Developments in financial markets since the Committee's
last regular meeting have increased the uncertainty surrounding
the economic outlook,'' the Federal Open Market Committee said
in a statement after meeting today in Washington. ``The
Committee will 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 larger-than-forecast reduction by Chairman Ben S.
Bernanke, facing his biggest test since succeeding Alan
Greenspan 19 months ago, suggests that officials see a serious
risk of an economic slump. The six-year expansion is threatened
by job losses and a worsening housing downturn.
``Economic growth was moderate during the first half of the
year, but the tightening of credit conditions has the potential
to intensify the housing correction, and to restrain economic
growth more generally,'' the FOMC said.
Today's decision was unanimous. Core inflation has improved
``modestly'' this year, while some risks remain, the Fed said.
``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 statement said.
Change in Direction
The federal funds rate, which banks charge each other for
loans, had stood at 5.25 percent since June 2006. That's when
the Fed ended a two-year run of increases that lifted the rate
from a four-decade low of 1 percent.
Most economists anticipated a quarter-point, and traders
pared bets on a bigger move in recent days as some Fed officials
signaled they would be reluctant to back a half-point cut.
The Fed's Board of Governors also lowered the rate on
direct loans to banks by half a percentage point to 5.25
percent.
The Fed first reduced the so-called discount rate by a half
point on Aug. 17 in a surprise move to restore confidence after
some companies found it hard to obtain funds as investors fled
riskier assets. The credit crunch was caused by losses in
securities tied to subprime mortgages.
The half-point reduction in the federal funds target was
forecast by 23 of 134 economists surveyed by Bloomberg News. One
hundred and five predicted a reduction of 25 basis points while
six forecast no change. A basis point is one-hundredth of a
percentage point.
``It's a good risk management move,'' Jan Hatzius, chief
U.S. economist at Goldman Sachs Group Inc. in New York, said
before the decision. ``If you do 50 and then subsequently find
out that 25 would have been sufficient, I don't think that much
is lost. The other way around, you do 25 and you find out you
should have done 50, that could be pretty bad.''
Investors began anticipating a reduction on Aug. 9, a week
before the Fed made the initial discount-rate cut and said risks
to growth have ``increased appreciably.'' Two weeks later,
Bernanke said in a speech that the central bank would ``act as
needed to limit the adverse effects on the broader economy that
may arise from the disruptions in financial markets.''
The decision comes two days before Bernanke faces lawmakers
in a House Financial Services Committee hearing on the mortgage-
market crisis. Representative Barney Frank, the Massachusetts
Democrat who heads the panel, on Sept. 7 called for a
``meaningful'' rate cut by the Fed.
Policy makers were forced to shift their focus to growth
from inflation in August as rising defaults on subprime
mortgages rippled through global credit markets. Asset-backed
commercial paper contracted by the most in at least seven years
and Countrywide Financial Corp., the biggest U.S. mortgage
company, was shut out of the market.
Economic reports show that the deepening recession in
housing is taking a toll on other industries. The Labor
Department said Sept. 7 that employers cut 4,000 workers in
August. Job growth has been slowing since June, Atlanta Fed
President Dennis Lockhart acknowledged. August figures for
retail sales and industrial production were below economists'
forecasts.
Officials including Fed Governor Frederic Mishkin and San
Francisco Fed President Janet Yellen highlighted the risks to
spending in speeches this month. Teams of Fed economists also
ran what-if scenarios to supplement the central forecast given
to the FOMC members today.
Inflation has also receded. The Fed's preferred price
gauge, which excludes food and energy costs, rose 1.9 percent
from a year earlier in July, within the 1 percent to 2 percent
comfort range stated by several officials. The Labor Department
said today that producer prices fell 1.4 percent in August, more
than economists predicted.
Financial markets have remained in flux. The benchmark
three-month borrowing rate between banks, known as Libor, has
climbed to 5.59 from 5.36 percent at the end of July, after
hitting 5.73 percent on Sept. 7. Fed officials ``clearly'' need
to pay attention to the Libor increase, Mishkin said Sept. 10.
The yield on two-year U.S. Treasury notes has dropped about
1 percentage point in the past three months as investors began
to anticipate a series of rate cuts.
``They ought to be doing something strong and if anything
be leading the markets rather than lagging them,'' Alan Blinder,
a former Fed vice chairman who is now an economics professor at
Princeton University in New Jersey, said before today's
decision.