Economics-minded DUers: What good are interest rate cuts at this point?

[Mike 03]

Can someone please explain why it makes sense for the Fed to make more interest rate cuts at this point to prophylactically deal with the predicted fallout of the coronavirus? Predictions range from 75 to 100 basis point cuts over the next 10 months (Goldman Sachs is predicting 100 BP), with the markets already factoring in at least three of these proposed cuts.

I don't understand what it's going to stimulate? To me, this is like firing four of your last six bullets into a brick wall when you know you'll be facing serious enemies in the future.

Please can anybody explain the rationale behind this to the market-challenged among us?

[leftieNanner]

1. Saves Trump Money on his Debt

That's all I got.

[Mike 03]

8. That's a good one.

[guillaumeb]

2. Cheaper money makes borrowing easier.

It is one way to increase economic activity, but much of the increase, perhaps most, would be shifting debt load and stock buy backs.

[Mike 03]

7. This is definitely true, but I'm just trying to figure out how this would

incentivize borrowing, since money's already pretty cheap. And then there's the fear of economies locking up from the virus.

But I appreciate the answer. Thanks.

[Amishman]

15. Commercial loans are often variable rate

So dropping interest rates lowers the operating costs to businesses for loans they already have. This helps them weather a downturn with less need for layoffs or other harsh cost cutting measures

[kimbutgar]

3. Cuts to the interest rates would make our treasuries unattractive to investors

Plus inflation would start creeping in as our dollar loses value when we can’t raise money in international markets.

[Mike 03]

5. I hadn't thought of these.

That's interesting.

It's really going to penalize bond investors and force some of them into equities. That seems dangerous.

Thanks, though.

[unblock]

12. i really don't see a big inflation risk at this stage.

inflation going into a recession isn't typical.

but if there's a way for the donnie administration to get something wrong, they will....

[A HERETIC I AM]

16. If the Federal Reserve cuts interest rates, it doesn't affect Treasury bond rates.

The initial rate of a Treasury, regardless of maturity, is set by auction. Subsequent changes in yield are a result of trading in the secondary market

If the Fed lowers rates, they are making money cheaper to borrow for the member banks. It’s not as if they can demand or order a lowering of interest or yield on bonds.


It doesn’t work that way.

[kimbutgar]

17. From what I remember is supply and demand

And if rates are not attractive to investors then rates need to be raised. I know about the function of the federal reserve but I would be curious to how much the federal reserve is debt at this point. Remember everything MF45 touches gets destroyed. He could destroy the federal reserve by dictating to them the policy of lowering rates more when it is not needed. I have never heard of a president threatening the federal reserve ever before this pos in the kkk house.

[A HERETIC I AM]

18. You are exactly correct

It is absolutely supply and demand, and demand still seems to be pretty high, as evidenced by the current 1.6% yield on a THIRTY YEAR BOND!! It’s absurd. It has a 2% coupon, which means if you hold one million in face value of those securities, you’ll be paid $20,000 a year in interest. Ridiculously low.

But since the yield is lower than the coupon, it would take quite a bit more than a million dollars to buy a million dollars WORTH. And you are correct that if yields get so low that no one will buy the securities, demand plummets along with price, pushing yields up until they look attractive again.

I’m on the road right now so looking up the answers to the other points you make is cumbersome, but you are probably right; The Federal Reserve is holding a shit ton of US debt paper at the moment which can not be healthy in the long term.

[genxlib]

4. When all you have is a hammer

Everything looks like a nail.

They got nothing else.

[DBoon]

6. didn't Keynes refer to it as "pushing a string" during the great depression?

meaning after a point it is completely useless in stimulating demand?

[Mike 03]

10. You said it more clearly than I could

It's the "stimulating demand" part that I doubt is going to happen.

If there's a grizzly bear in my yard, and someone pulls up in the street in front of my house and says, "If you come to the driver's side window I'll give you a ten dollar bill" I'm staying in the house.

[unblock]

11. pushing a string, indeed

yes, that is the expression, and more apt than usual in this situation.

[unblock]

9. you're not wrong.

interest rate cuts generally stimulate economic activity by making borrowing costs cheaper. this encourages lending and borrowing to fund new ventures, expansion, etc.

however, you are correct in that if a company is canceling travel and trade shows and so on due to covid-19 fears, slightly cheaper borrowing costs aren't really going to factor in to that decision.

nevertheless, some businesses may be able to take advantage, particularly if their business doesn't involve much in the way of travel, suppliers or customers in covid-19 hot spots, etc.

so the stimulative effect will be much more limited than usual, and largely confined to certain parts of the economy.


probably the bigger effects would be market-related. bonds and the dollar would become less attractive, so it would encourage people to shift money back into the stock market.

[Mike 03]

13. Thanks.

Lot of good info in your post.

This is going to be rough for fixed-income investors who depend on bond yields and don't really like the risk of equities.

Well, I hope it does some good for somebody. There won't be much room left for future cuts.

[SWBTATTReg]

14. A sad attempt on goosing the pump, which has already been goosed to the max by the feds ...

already. Rates were already on their way upwards, until signals came in that the economy was slowing down more than anticipated so the feds stopped the increases in the prime rate (rate charged to banks) and either implemented a 'wait and hold' policy or perhaps bringing down the rates somewhat slowly. I love your analogy that firing four of your last six bullets into a brick wall won't be effective. After the vaunted 2017 tax cut and jobs bill passed, and its dismal failure to do anything other than put more money back in the pockets of those already flush w/ cash (and literally running out of things to invest in, being that instead of goosing the economy w/ the proceeds from the 2017 Act, most pocketed and passed the tax savings to their investors / owners.

So again, the feds are trying to rely on the consumer (us). We're already hamstrung by inflation, tepid wage increases, AND before we know it, people across the Country are going to find out the true cost of the 2017 tax cut and jobs bill (which have failed dismally), we're going to start actually paying for it (remember that they faked our so called tax savings by simply decreasing the deductions folks actually needed to pay their taxes in full.

Some people seem to believe that cutting the interest rate is a panacea that solves all, when in fact, it creates (imho) inflation and stimulates demand perhaps when it is not needed (like the 2017 tax cut act did). I suspect that rump perhaps has loans tied to the LIBOR rate, the London England interest rate (or tied to the prime rate in the US plus X percentage, like a lot of loans). So, in effect, rump is jumping hoops for his own selfish personal reasons, he's in debt up to his eyeballs and won't tell anyone of this fact, which in my opinion, seriously disqualifies him from being president or running for re-election.