The Federal Open Market Committee cut the Fed Funds Rate to 2% and the Discount Rate to 2.25% today, and implied that weak economic activity and inflationary threats (especially in energy and commodity prices) may offset each other. Since August, the Fed has cut the bank-to-bank Fed Funds Rate 3.25% (from 5.25% to 2.0%), and cut the Fed-to-bank Discount Rate 4.0% (from 6.25% to 2.25%).
Markets were expecting a more definitive statement that the Fed would be done cutting. So far, stock markets are up modestly, and mortgage bonds are performing strongly. If bond levels hold, it implies mortgage rates could be .125% better tomorrow, when Personal Consumption Expenditures are released and Friday, when the Jobs Report is released. Employment firm ADP today reported a job increase of 10,000, versus their estimate of a 60,000 decrease. ADP numbers have been completely unreliable in recent months, and the Bureau of Labor Statistics jobs report Friday is the really important number. Estimates call for 75,000 jobs lost for March, following 80,000 jobs lost in February.
The Discount Rate means that commercial banks can get 28 day loans from the Fed at 2.25%, which makes it a viable way to access funds amidst the continuing credit crunch — it’s also important to note, that until further notice, investment banks can also access the Discount Window in addition to commercial banks. And instead of being limited to 28 day loans, both entities can get loans up to six months if they meet certain underwriting requirements. These measures have been implemented by the Fed in recent months to help credit markets. The Fed Funds Rate cut means Home Equity Line of Credit 2nd mortgages will drop .25%, and it will also help rates on short term credit like credit cards and some car loans.
With the economic stimulus package checks coming, and gas prices at record highs, this could push inflation higher, but the housing market weakness could make the consumer weaker. We also covered how rate cuts can be inflationary on Monday. Two FOMC members, Charles Plosser and Richard Fisher, voted against the cuts because they believe that inflation is more of a threat than economic weakness. Also, these cuts put real rates at 0% or negative, so they really don’t have much room to move.
FULL STATEMENT OF THE FED ANNOUNCEMENT
The Federal Open Market Committee decided today to lower its target for the federal funds rate 25 basis points to 2 percent.
Recent information indicates that economic activity remains weak. Household and business spending has been subdued and labor markets have softened further. Financial markets remain under considerable stress, and tight credit conditions and the deepening housing contraction are likely to weigh on economic growth over the next few quarters.
Although readings on core inflation have improved somewhat, energy and other commodity prices have increased, and some indicators of inflation expectations have risen in recent months. The Committee expects inflation to moderate in coming quarters, reflecting a projected leveling-out of energy and other commodity prices and an easing of pressures on resource utilization. Still, uncertainty about the inflation outlook remains high. It will be necessary to continue to monitor inflation developments carefully.
The substantial easing of monetary policy to date, combined with ongoing measures to foster market liquidity, should help to promote moderate growth over time and to mitigate risks to economic activity. The Committee will continue to monitor economic and financial developments and will act as needed to promote sustainable economic growth and price stability.
Voting for the FOMC monetary policy action were: Ben S. Bernanke, Chairman; Timothy F. Geithner, Vice Chairman; Donald L. Kohn; Randall S. Kroszner; Frederic S. Mishkin; Sandra Pianalto; Gary H. Stern; and Kevin M. Warsh. Voting against were Richard W. Fisher and Charles I. Plosser, who preferred no change in the target for the federal funds rate at this meeting.
In a related action, the Board of Governors unanimously approved a 25-basis-point decrease in the discount rate to 2-1/4 percent. In taking this action, the Board approved the requests submitted by the Boards of Directors of the Federal Reserve Banks of New York, Cleveland, Atlanta, and San Francisco.