March 19, 2008 in Business

Aggressive Fed boosts market

Martin Crutsinger Associated Press
 
Associated Press photo

Trader Mel Tracy signals at the Chicago Mercantile Exchange. Associated Press
(Full-size photo)

WASHINGTON – Ben Bernanke’s Federal Reserve is proving it’s not afraid to move aggressively.

Criticized for being too tentative after the credit crisis erupted in August, Chairman Bernanke and his central bank colleagues have significantly picked up the pace since the turn of the year. They have delivered a series of hefty interest rate cuts and taken other unprecedented actions to supply money to cash-strapped financial institutions.

The Fed on Tuesday slashed a key interest rate by three-quarters of a point, wrapping up its most aggressive two months of rate cuts in a quarter-century.

The strong action boosted spirits on Wall Street, pushing the Dow Jones industrial average up 420.41 points in its biggest one-day point gain in five years. Investors took heart that the central bank will do whatever it can to keep the country out of a recession.

The latest Fed move brought the federal funds rate – the interest that banks charge each other – down to 2.25 percent, the lowest since late 2004.

That’s important far beyond bank boardrooms. The reduction triggered announcements from commercial banks that they were cutting their prime lending rate to 5.25 percent from 6 percent. This rate is the benchmark for millions of business and consumer loans.

The Fed action was designed to lower borrowing costs and boost spending by consumers and businesses, and thus increase economic activity. Economic growth slowed to a near standstill in the final three months of last year as the nation was hit by a series of blows including the credit crunch, a prolonged housing slump, rising unemployment and surging energy prices.

The Federal Reserve now has now cut its funds rate by three-fourths of a percentage point twice this year. The first occurred Jan. 22 after an emergency meeting and was followed by a half-point cut at a regular meeting Jan. 30. The three rate cuts over the course of two months represent the most aggressive Fed credit easing since mid-1982 when the Paul Volcker-led Fed was working to get the country out of a deep recession.

Bernanke and his colleagues have cut the funds rate six times since September, with the reductions becoming more aggressive since January as the central bank has faced growing turmoil in global financial markets.

The Fed also announced Tuesday it was reducing its discount rate, the interest it charges to make direct loans to banks, by a similar three-quarters of a point, pushing this rate down to 2.5 percent.

That cut, which followed a quarter-point reduction in the discount rate Sunday, was seen as a clear signal that the Fed is ready to supply significant amounts of credit in direct loans to banks and other institutions through its discount window in an effort to stabilize financial markets roiled by the collapse over the weekend of Bear Stearns, the nation’s fifth largest investment bank.

“We had been on the brink of the biggest financial meltdown this country had ever seen, but I think the Fed has now turned the psychology around,” said David Jones, chief economist at DMJ Advisors. “The Fed is saying it is ready to supply all the emergency credit banks need to get us out of this crisis.”

Many analysts said they believed the Fed may cut rates only once more, perhaps by a more ordinary quarter-point at the next meeting, and then sit back and see if economic stimulus checks that will begin arriving at 130 million households in May do the trick along with the rate cuts to jump-start the economy.

In explaining its actions, the Fed said it was having to navigate a difficult policy environment that included sluggish economic activity and rising inflation pressures. It said anew that it was prepared to take further action.

“Financial markets remain under considerable stress and the tightening of credit conditions and the deepening of the housing contraction are likely to weigh on economic growth over the next few quarters,” the Fed said in its statement.

In Jacksonville, Fla., last Tuesday, President Bush said the government will take further action – if necessary – to help the sagging economy.

The spectacular fall of Bear Stearns has raised concerns about what other banks might fail as a result of multibillion-dollar losses that began last year with rising defaults on subprime mortgages, loans made to borrowers with weak credit histories. However, two investment banks, Lehman Brothers Inc. and Goldman Sachs Group Inc., reported better than expected first quarter results on Tuesday, easing market worries.

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