Rate Cut Talk Isn't Just Talk
It's no longer a guessing game about whether the Federal Reserve will lower interest rates. The only question remaining: When?
Federal Reserve Chairman Alan Greenspan's somber testimony before Congress on Sept. 23 on the topic of the worsening world economy all but guaranteed that a cut in interest rates will take place this fall, perhaps as early as Sept. 29, which is when the Federal Open Market Committee is scheduled to meet. Fed watchers are looking for a 0.25% cut in the 5.5% overnight federal-funds rate, although a reduction of one-half a point can certainly not be be ruled out.
NO BODY BLOW YET. Greenspan, who went to great lengths to describe all the risks that are currently facing the U.S. economy as a result of the deepening global meltdown, must still convince the Fed inflation hawks that the cut is needed now--since the economy has yet to take a body blow. The Fed chief's arguments: Manufacturing is softening, profits are stalling, and companies are having a tougher time raising funds. Indeed, as Greenspan testified, the Fed was trying to head off a potential banking crisis sparked by massive hedge fund losses in emerging-markets (right).
Many Fed watchers expect to see a half-point cut, but even a quarter-point move could have widespread impact. Any cut would push down the value of the U.S. dollar, thus easing the crunch on American exporters. But more important, a falling dollar would give breathing room to Latin American and Asian borrowers with dollar-denominated debt. "A drop in U.S. rates would directly help these countries," says Michael R. Englund, chief economist at Standard & Poor's MMS.
And the assurance that a rate cut is really in the works operates as a tonic: The Dow Jones industrial average soared 257 points on Sept. 23. Says former Federal Reserve Vice-Chairman Manuel H. Johnson Jr.: "A rate move puts a floor under all this global depression talk."