January 23, 2008 in Business

Despite Fed rate moves, uncertainty lingers

Associated Press The Spokesman-Review
 

WASHINGTON – When people are panicking, it’s hard to stop the stampede with talk about cutting a “federal funds rate.” Economic fears on Wall Street and around the world are making people and businesses hunker down, and that could make all the recession worries come true – a vicious cycle the Federal Reserve, White House and Congress may be hard-pressed to break.

Giving it a try, official Washington is in full crisis-management mode. Virtually everyone agrees more action will be needed.

In his boldest move yet, Fed Chairman Ben Bernanke on Tuesday slashed the central bank’s most important interest rate by three-quarters of a percentage point – the biggest cut in records going back to 1990 – and signaled he’s ready to go lower. That should lower many other interest rates charged to millions of people and companies.

At the same time, President Bush and top lawmakers in Congress were rushing to secure fast agreement on a rescue plan to inject about $150 billion into the economy. Tax rebates for individuals and tax breaks for businesses are likely to be part of a package. Maybe more spending for food stamps and unemployment benefits, too.

“The Fed’s action gives some psychological breathing room, but it isn’t enough in itself. There is a lot of fear out there,” said Howard Chernick, economics professor at Hunter College.

That was evident on Wall Street. The Dow Jones Industrials closed down nearly 130 points after tumbling more than 400 at the start of the day.

Panic itself can make people and businesses change their behavior – clamp down on spending and or cut back on hiring and capital investment – and in turn make things worse. A gloomy mind-set can become a self-fulfilling prophecy.

To break it, more rate cuts by the Fed are likely to be needed.

“This is only the appetizer. The main course is going to be served up next week” when the Fed is likely to lower its key rate by one-half percentage point, said Ken Mayland, president of ClearView Economics.

Many economists predict the rate, now at 3.5 percent, could fall to 2.5 percent, or possibly lower, by spring.

For many people, that could mean lower interest rates on certain credit cards, home equity lines of credit and other loans. It also could provide some relief to some adjustable-rate mortgages. If people are paying less interest, they may be more inclined to shop, which would help energize the economy.

For businesses, lower interest rates could spur capital investment and hiring.

Most people think that won’t be enough.

The Bush administration and Congress promise to quickly approve an economic stimulus package to get cash into the hands of people, hoping they’ll spend it just as quickly. Recognizing the urgency, both sides appear to be putting aside some political differences in championing tax rebates and other changes.

There are some things, however, the administration has little or no control over – namely, higher oil prices that will sock people when they open their home heating bills and fill their cars with gas. And there’s the possibility that banks will continue to rack up multibillion-dollar losses due to bad mortgage investments. Those losses have to run their course – and could fuel even greater panic.

There was some thought that the Fed’s dramatic move Tuesday may have added to the skittishness.

“You have the Fed sending the message that something is seriously wrong,” said Richard Yamarone, economist at Argus Research. “Most people do believe that we are in a recession.”

The Fed’s rate cuts, which began in September, take months to work their way through the economy and show up in business activity. The same goes for a stimulus package.

Senate Majority Leader Harry Reid, of Nevada, said the goal is to get a deal through Congress and on Bush’s desk within roughly three weeks. Bush said he was confident that Congress and the administration will be able to approve a stimulus package.

Will that avert a recession or at least cushion the blow?

“The Fed and other policymakers in Washington are trying to avoid what people fear the most – an oncoming recession. If they can calm those fears, perhaps not today or tomorrow but down the road, that would go a long way in stabilizing the situation,” said Victor Li, an economics professor at Villanova School of Business.

Lowering interest rates or passing a stimulus package may not be enough. People and investors may want to see something more concrete – lower unemployment or higher retail spending, for example. But the economy is dealing with a huge unknown: the ultimate magnitude of the housing crash and credit crunch.

And with uncertainty comes more fear – a return to the vicious cycle.

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