Fed Cuts Interest Rate to 1 Percent
The Federal Reserve slashed a key interest rate to match its lowest level in decades today, as the central bank continued pulling out all possible stops to try to contain the economic fallout of the financial crisis.
The Fed’s policymaking committee this afternoon cut the federal funds rate, at which banks lend to each other, to 1 percent, from 1.5 percent. The last time the rate was that low was in the aftermath of the dot-com bubble in the early 2000s; the Fed’s target rate hasn’t been lower than 1 percent since the 1950s.
The stock market, which had been up modestly before the announcement, fell immediately thereafter. At 2:35 p.m., the Dow Jones industrial average was down more than one percent or 119 points.
The lower rate is meant to stimulate the economy and guard against a deep and long recession; it followed an emergency rate cut just two weeks ago. In normal times, Fed rate cuts make it cheaper for businesses to borrow money to expand and for consumers to get auto loans, home mortgages, and credit card debt. But in the current environment, with banks reluctant to lend, its impact is uncertain.
“The pace of economic activity appears to have slowed markedly,” said the Federal Open Market Committee in a statement, “owing importantly to a decline in consumer expenditures.” It also noted that business spending is falling off and exports appear poised to weaken. “Moreover, the intensification of financial market turmoil is likely to exert additional restraint on spending, partly by further reducing the ability of households and businesses to obtain credit.”
The action was the latest in the Fed’s deployment of almost every tool in its arsenal to try to combat the financial crisis and its economic fallout. It has created immense new tools to try to bring liquidity back into financial markets, more than doubling the size of its balance sheet in the process.
It has made emergency loans to save insurance company American International Group, and is now effectively lending directly to individual companies by buying their short-term debt. Federal Reserve Chairman Ben S. Bernanke has endorsed the idea of a second economic stimulus package, the specifics of which is now being drafted by Congress. And the Fed has now cut its short term interest rate target from 5.25 percent in summer 2007 to its current 1 percent.
That wide range of efforts “should help over time improve credit conditions and promote a return to moderate economic growth,” the Fed statement said.
The hope at the Fed is that all these efforts will complement each other, restoring confidence to businesses and ordinary Americans and jumpstarting lending so that credit can again flow.
Each incremental rate cut at this point has less effect than it normally would, due to the problems in credit markets. Moreover, the federal funds rate set by the Fed is only a target. The central bank buys and sells Treasury securities to try to maintain the actual rate at the target, and in recent weeks has had trouble maintaining the rate at its intended level, resulting in an effective rate cut.
The statement accompanying the decision reaffirmed that the Fed could move further if the economy continues to worsen, perhaps even cutting the rate to zero. “Downside risks to growth remain,” it said, and the policymakers “will act as needed to promote sustainable economic growth and price stability.”
And it showed the Fed’s dissipating worries about inflation, stating that the policymakers expect inflation “to moderate in coming quarters.” Previous statements have emphasized the risks of higher inflation.
The decision was unanimous, as was the case at its last regular meeting and with the emergency rate cut earlier in the month. For most of this year, Bernanke had had one or more dissents to interest rate moves, but in the current environment the policymakers appear to be more on the same page — or at least inclined to present a united front.
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