‘Fed may keep cutting interest rates'

Jan 23 2008 by Sion Barry, Western Mail

THERE could be more interest rate cuts to come as the US Federal Reserve tries to head off recession.

Howard Archer of Global Insight said the prospect of a US recession suggests the Fed may keep cutting rates.

Yesterday’s surprise decision to cut US rates by 0.75% helped rally London’s FTSE-100 index, after £76bn had been wiped off its value on Monday. The index of leading shares closed 161.9 up at 5740.1, a gain of 2.9% after Monday’s 5.5% fall.

The Fed’s cut to 3.50% was its first emergency move since 2001 and the largest single reduction since 1984.

Mr Archer of Global Insight said “The Fed did not directly reference Monday’s global stock-market meltdown in its announcement, merely noting that ‘broader financial market conditions have continued to deteriorate’. It focused upon the weakening outlook for growth.”

He added, “The Fed’s focus makes sense, because although the plunge in global equity markets on Monday was the trigger for the move, it was not the underlying cause. Both the financial markets and the Fed are responding to the increasing risk of US recession and the danger that the United States will pull the rest of the world down.

“The weakening in indicators since the beginning of the year has suggested that at least a mild recession is now more likely than not, and that vigorous Fed rate cuts are warranted.

“The plunge in global markets has prompted immediate action, instead of waiting until the next scheduled meeting on January 30.

“We now expect the Fed to cut another cumulative 100 basis points off interest rates, which would take the federal funds rate down to 2.50%. The next instalment will probably come at the formal meeting on January 30 – another 25 or 50 basis points. We would expect to hit 2.50% by the April 30 meeting.”

David Kern, economic adviser to the British Chamber of Commerce, said, “Although unexpected, the Fed’s decision highlights the mounting risks to the global economy resulting from the credit crisis. While we believe that talk of a recession should be rejected, we call on the MPC to be alert to the risks.

“If the situation worsens, the MPC should consider an emergency cut in UK interest rates, even before the scheduled next meeting in early February.”

The Footsie surged 1.7% after the Fed’s decision, recovering after a start which saw the index plummet by 4.3% in the first few minutes of trading.

The gains later slipped back after the US opening, dipping into the red, before settling in positive territory as the falls in the US were less than some had feared.

US rate-setters had not been expected to reduce borrowing costs until the end of the month, but yesterday’s surprise decision came in gathering economic gloom.

Cardiff-based regional director of Brewin Dolphin, David Myrddin-Evans said, “Everybody is questioning which way the US economy is going at the moment. Americans are the biggest consumers in the world, so if it goes into recession it will have a global effect.

“However, the Bank of England has less room to manoeuvre because of inflation. It can’t cut interest rates as the Fed has done because its target is inflation, not growth of the economy.

CBI director-general Richard Lambert said the stock market fall was merely a sign that shares were catching up with the decline in credit markets seen when the credit crunch began last summer.

He said, “When the credit crunch hit in mid-August, capital markets fell back, then they recovered pretty much. I think we are seeing a catch-up in the equity market with the shock that resounded in the credit market.”