In an extraordinary and unscheduled move the Federal Reserve cut the discount rate 0.5% last night in an attempt to calm the credit markets that are roiling the global economy. Stocks immediately rallied as investors regained a bit of the confidence lost over the past two weeks. The Fed, which many called obstinate and “not in touch” with the realities of the market was widely applauded on Wall Street this morning for the move.
Lowering the discount rate reduces the cost of borrowing money to US banks; it does not necessarily reduce the cost of credit available to US consumers. However, some lower rates could be seen in non-agency products such as jumbo loans if the reduced cost of borrowing capital spurs renewed investor interest in mortgage backed securities.
Here is the Fed statement in its entirety:
Financial market conditions have deteriorated, and tighter credit conditions and increased uncertainty have the potential to restrain economic growth going forward. In these circumstances, although recent data suggest that the economy has continued to expand at a moderate pace, the Federal Open Market Committee judges that the downside risks to growth have increased appreciably. The Committee is monitoring the situation and is prepared to act as needed to mitigate the adverse effects on the economy arising from the disruptions in financial markets.
From the Market Watch article:
By cutting the discount rate instead of the federal funds rate, the Fed signaled that it believes problems are mainly confined to the financial system, and are not yet impacting the broader economy. The cut in the discount rate provides funds to banks, but does little to change consumer and commercial interest rates, as a cut in the fed funds rate would do.
This is a rather abrupt reversal of course from the statements made by Mr. Bernanke at the previous Fed meeting.
After last week’s meeting, the FOMC had said it judged inflation to be a greater risk to the economy than slow growth.
In effect, the FOMC has shifted its policy bias from being tilted toward a rate hike to being tilted toward a rate cut. Financial markets expect the FOMC to cut the fed funds rate in September.
Some are not convinced that this is the right move, and argue that it is only adding more debt to the economy:
“Markets should not be calmed by this tactic,” wrote Ian Shepherdson, chief U.S. economist for High Frequency Economics. “This move is not going to provide any relief to the overall economy.”
Not surprisingly the dollar fell against most of the major world currencies.
It is important that the Fed carefully toe the line of providing an orderly wind down to the financial orgy of the last few years as opposed to facilitating the continued, unsustainable binge of cheap credit. Inflation and a “dollar accident” are real dangers if liquidity - dubiously secured and highly leveraged - continues to run rampant in the quest for Wall Street profits.
Read More...
[Source: Blown Mortgage]
No comments:
Post a Comment