Fed Cuts Discount Rate to 5.75% to Ease Credit Crunch

[swag]

Source: Bloomberg

Aug. 17 (Bloomberg) -- The Federal Reserve unexpectedly cut its discount rate and said it's prepared to take further action to ``mitigate'' damage to the economy from the rout in global credit markets.

The central bank reduced the rate at which it makes direct loans to banks by 0.5 percentage point to 5.75 percent. Policy makers kept their benchmark federal funds rate target unchanged at 5.25 percent. It's the first reduction in borrowing costs between scheduled meetings of the Federal Open Market Committee since 2001 and Ben S. Bernanke's first as Fed chairman.

``Financial market conditions have deteriorated, and tighter credit conditions and increased uncertainty have the potential to restrain economic growth going forward,'' the central bank's Federal Open Market Committee said in a statement released in Washington. ``The downside risks have increased appreciably.''

In the statement, the committee said it is ``prepared to act as needed to mitigate the adverse effects on the economy arising from disruptions in financial markets.''

The cut reflects alarm at the central bank that more restrictive lending conditions and volatility in financial markets will deepen the housing recession, weaken employment and erode economic growth. As recently as its Aug. 7 meeting, the FOMC kept rates unchanged and said inflation is still the biggest danger to the economy.



Read more: http://www.bloomberg.com/apps/news?pid=20601087&sid=aMr45.9VOKes&refer=home

[bemildred]

1. They don't call him "Helicopter Ben" for nothing.

On the other hand, I don't see what else they could do. Being stubborn about easy money didn't do much for Hoover 80 years ago.

[plasticsundance]

2. The Fed continues in its irresponsible and reprehensible behavior

The Fed keeps using the same tactics that created this mess. It's like a heroin addict saying they're trying to kick the habit, while at the same time continuing to take the drug to kill the symptoms of cold turkey.

[bemildred]

3. What do you think should be done?

I am curious. I don't care a fig for Helicopter Ben, but I also don't see what else he is supposed to do here. If he raises rates, trillions of "wealth" will evaporate. If he leaves rates the same, trillions of "wealth" will evaporate. If he lowers rates, maybe, everybody gets a little more time before trillions of "wealth" evaporates. And he has never pretended to be anything other than a easy money sort of guy.

[plasticsundance]

5. He should do what the Fed should have done long ago

Bite the bullet. Feel the pain, and let the economic cycle play through. Otherwise, the problem will only be more exacerbated down the road, and it is already at the critical phase.

The Fed was warned. The Street was warned by clearer thinking heads, but everyone is still listening to the ones causing the mess.

Oh ... and it will end badly for many if the irresponsible behavior of the Fed continues ... it already has for many.

[Auggie]

7. The GOP is hoping to dump this mess into the laps of Democrats next year

[Tempest]

12. Exactly

The Fed is throwing gasoline on the fire.

[Auggie]

19. The GOP is eyeing 2012 already

They'll let the Democratic President and Democratic Congress struggle for four years with recession, then campaign as the party of economic reform.

[Tempest]

23. It will be a losing strategy for them

Eliminating Bush's tax cuts and increasing taxes on the rich will turn around the economy within two years.

That'll give the Repugs two more years to come up with a different (and losing) strategy.

[Auggie]

24. I certainly hope so. I think we'd need some serious economic growth too,

like what happened with technology in the late 90's. What better time to advance environmental sciences and alternative energy sources than with Democrats in office?

[Tempest]

26. I see another Clinton expansion

Lowering taxes on the middle class, raising taxes on the rich and spending more on infrastructure projects (along with your suggestions of sciences and energy) will increase employment and consumer spending. It also means the Iraq war will have to end because it's such a huge drain on the Treasury.

The economy is pretty resilient and quite adaptable today. I don't see any real long term negative effects if the Democrats move quickly in 2009.

[ryanmuegge]

33. We need a lot more than just taxation.

We need jobs that produce goods and services to sell to the rest of the world.


Hopefully those tax cuts get eliminated so we can stop some of the bleeding and cut down on the mandatory spending deficits.

[ChairmanAgnostic]

the longer they put this off, the greater the collapse

no joke. then again, it is no joking matter.

[CreekDog]

37. Then maybe we should let unemployment play itself out

Personal bankruptcy should play itself out, all the things that happen to people should play themselves out to teach that lesson you seem to eager for OTHER people to learn.

You seem to neglect that prudent action from the Fed can restore some normalcy while protecting many innocent bystanders, as well as the not so innocent, but certainly not wealthy bystanders who have children to feed, clothe, house and provide healthcare to.

I am SICK OF moralizing posts like yours that suggest everyone needs a good dose of the medicine they selected. Who the heck are you to judge what everybody needs, when it seems to exempt yourself from any pain? Hmmm? GDIWE!

[MidwestTransplant]

8. The credit markets were literally disintegrating. It would make the tech bubble look benign if

it continued. It still may but this is a bit of reprieve.

[plasticsundance]

9. No. This is only a stay of execution ...

but the verdict won't change.

[Dr.Phool]

18. Dow was up 350 points.

I fed the dogs their breakfast, and it's now up 150 points.

It lost 200 points in the time it takes to feed 2 dogs. I'm glad I don't own stocks anymore. I'd have ulcers.

[ryanmuegge]

35. The casino economy!

How wonderful it must be.

[earthside]

4. We Must be Near 'Calamity'

This Reuters story just yesterday:

Fed's Poole says no need for emergency rate cut

"St. Louis Federal Reserve Bank President William Poole said on Wednesday financial market turmoil had not undermined the U.S. economy and there was no need for the central bank to ride to the rescue with an emergency rate cut. ...

The St. Louis Fed chief said that barring a "calamity," there was no need for the U.S. central bank to consider cutting interest rates before policy-makers gather for their next regularly scheduled meeting on September 18 ..."

You can only conclude therefore, that the U.S. economy is nearing a point of 'calamity'.

[leftist.]

6. Yeah this sucks HARD, I just got my act together with long term investments ...

I finally got around to getting my finances in order and made some "responsible" (I thought) long term investments. This was about three months ago and already I've lost over 10% of the initial investment. I know I know, I have to look at things longer term, but it still hurts.

[CreekDog]

38. You should have dollar cost averaged into your investment

So you are not investing everything at one fixed price. If you do that, then you buy fewer shares when prices are high and more shares when prices are low.

[Tigermoose]

11. Is the "discount rate" the same as the "interest rates" cited in this article's quote?

I think they are different.

[Tempest]

14. Different rates, but same intentions

Cutting the discount rate has the same effect as cutting the prime rate, both are intended to stimulate borrowing.

[TexasLawyer]

22. They are different

The discount rate was cut, but the much more important federal funds rate was left alone.

http://en.wikipedia.org/wiki/Federal_funds_rate

The federal funds rate is the interest rate at which private depository institutions lend balances (federal funds) at the Federal Reserve to other depository institutions overnight.

Here is how the system works:

U.S. banks and thrift institutions are obligated by law to keep certain no-interest-bearing reserves with the Fed (or to keep an equal amount of vault cash, but this imposes risks and costs). The level of these reserves is determined by the outstanding assets and liabilities of each depository institution, as well as by the Fed itself, but is typically 10% of the total value of the bank's demand accounts.

Assume that a particular U.S. depository institution (Bank A) needs additional money in order to keep its reserve at the Fed at the legally required level. To this purpose, it will borrow the requisite funds from another bank (Bank B) that has a surplus in its Fed reserves. The interest rate that Bank A will pay to Bank B in return for borrowing the funds is negotiated between the two banks, and the weighted average of this rate across all banks is the effective federal funds rate.

The nominal rate is a target set by the governors of the Federal Reserve, which they enforce primarily by open market operations (the buying and selling of bonds). When the media refer to the Federal Reserve "changing interest rates," this nominal rate is almost always meant. The target is generally a range, as the Federal Reserve cannot set an exact value through open market operations.

Another way banks can borrow funds to keep up their required reserves is by getting a loan from the Federal Reserve itself at the discount rate. These loans are very short term and rare, as they are subject to audit by the Fed and the discount rate is usually higher than the federal funds rate. Confusion between these two kinds of loans often leads to confusion between the federal funds rate and the discount rate. Another difference is that, while the Fed cannot set an exact federal funds rate, it can set a specific discount rate.

[catmandu57]

10. It's the only thing they've got left

They dumped all the cash they could get their hands on, the problem is there are still greedy pigs squealing for a teat.

[CreekDog]

39. Greedy pigs that want a mortgage so they can buy a house?

Is that what constitutes a greedy pig?

You have made a ridiculous post.

[Maggie_May]

13. Doesn't this not hurt the value of the dollar?

[Tempest]

15. Not really

All that is happening is the same money is being passed between banks at a lower rate to the banks themselves. Nothing leaves or enters the banking system.

However, the Fed injecting billions into the market will hurt the dollar in the long term.

[Maggie_May]

16. Thanks for the answer to my question

:)

[Doctor_J]

17. No, LAST week's hail mary will kill the dollar

this one allows more people with suspect or worse credit to borrow a little more to put off their foreclosure for another 6 months or year.

[Victoras]

20. the fed reduction

this also allows the big investment banks, groups, private equity, an opportunity to excape
& to pay very little in restructuring their holdings, including dumping their mortgage bad paper & CDOs,

a tap dance, which the little guys can only watch

[Tempest]

25. Yup, the Fed is bailing out the big boys

And letting the little guys sink.

This doesn't help the homeowners in foreclosure because of corrupt bank practices, just the banks that issued the loans.


Welcome to DU. :hi:

[CreekDog]

40. No, it doesn't do that

And to the extent that it enables mortgages, it's not enabling them for subprime borrowers so much as allowing those with good credit to go forward --loans which should go forward based on the borrower but that because of market and lender conditions are getting cancelled.

[plasticsundance]

27. Yes ...

NEW YORK, Aug 17 (Reuters) - The dollar fell broadly on Friday after the Federal Reserve cut the discount rate and said downside risks to the U.S. economy have increased.

The central bank cut the rate governing direct Fed loans to banks by a half-percentage point in an attempt to increase liquidity. For details, see

Investors and traders said the Fed's action could be seen as the last step before a reduction in the benchmark lending rate.

"By no means is this positive to the dollar," said Gregory Salvaggio, a senior currency trader at Tempus Consulting in Washington. "Actually, this is the two-headed monster for the buck: lower interest rates and slower growth."

http://today.reuters.com/news/articleinvesting.aspx?type=usDollarRpt&storyID=2007-08-17T143810Z_01_N17208772_RTRIDST_0_MARKETS-FOREX-UPDATE-9.XML

[roamer65]

21. Here come the Bernanke bucks!

Fresh off the computers and printing press. Get ready for a dollar crisis very soon.

[Hawkowl]

28. Dangerous

A very risky move. The danger is it will have no real effect and that will be perceived by the markets as Fed impotence. This will simply cause banks to tighten their lending restrictions further--in a panic.

People don't realize the complexity of the banking system. First, the discount rate really does nothing to encourage banks to lend more money in this current environment. Do you think even a whole point reduction is going to cause banks to lend more money in the mortgage market? The problem has started in the sub prime market where lenders are already making obscene percentages on their money. The problem is that the average household can't afford the giant house they bought with ARM's, balloon payments and interest only loans. 1/2% discount to the bank is not going to help them one bit. The foreclosure rates will continue to increase, demand will fall, housing stock will increase, and prices will probably slide for YEARS.

The average family making $40-80K can't afford a $300,000 home on a traditional mortgage. This is a structural deficiency and the lenders have all finally clued in. An emperor has no clothes moment. You can't go back to pretending. Banks are the ones who make money not the Fed. You don't think so? When's the last time you ponied up $300,000 cash for a house. You don't. You go to the bank, it writes you a little piece of paper to give to another bank that says we'll give you $300,000 for the house and voila, the bank just pulled $300,000 out of NOTHING. No printing, no coin, no gold. Just paper. The only thing the Fed requires are sufficient RESERVES, i.e; a fraction, usually 5-10%, of cash on hand. So as long as its depositors have $30K in the bank, the bank gets to make $270,000 out of nothing to pump into the economy. Can you see how the economy is fucked yet? Banks don't want to lend money right now.

AN INTEREST RATE CHANGE WON'T FIX THIS. The lenders attitudes are fundamentally changed. Fear of losses. Inadequate regulation. Inflated prices and accelerating foreclosures will dry up the mortgage market. In fact, traditionally they will overact, because bankers are super cautious. Meaning people who should get credit won't get it. Credit tightening in the sub-prime market has a ripple effect as bankers start refusing to offer credit in the traditional markets. This is what happened during the Great Depression. Keynes defined it as a liquidity gap. Meaning no matter how low the interest rates go, lenders are afraid to lend money. This led to all of Roosevelt's public works projects to get people back to work, so they had money to spend, because lenders won't lend to people without jobs.

The Fed will have to do much more to restore confidence than drop rates. This will be a long, deep recession, exacerbated by the War, and out right thieving of the Bush administration.


Re

[roamer65]

29. I expect that the Fed eventually will sacrifice the dollar...

and drop interest rates to near zero in order to infuse the banks directly with cheap cash. All of this infusion will be freshly created money and will fuel the current inflationary recession/depression. They will pick the poison of a inflationary recession/depression over a deflationary one.

I agree with you assessment above, btw. Dead on.

[Mugsy]

30. First cut since invasion of Iraq.

It's worth noting that this is the FIRST interest rate cut since the invasion of Iraq.

Why?

The Fed steadily raised interest rates after the Iraq invasion started showing signs it WASN'T going to be a cakewalk and might go on for a while to attract foreign dollars to pay for the war without raising taxes.

[unblock]

31. this cut is largely *symbolic*

the fed funds rate is the interest rate that really matters. they left that unchanged.

there's little activity at the discount window, and a cut there doesn't affect much of anything at all, really.


what *is* meaningful is that this is a signal that they are more likely to lower the fed funds rate in the near future. *that* would have an actual effect on economy.

[DU GrovelBot]

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[amandabeech]

34. I thought that I heard on CNBC this a.m. that not only was the Fed

lowering interest rates at the discount window, but that the Fed was prepared to take CBO's (mortgage-backed securities) as collateral even though no other lending institution in the world seems to be taking them, too.

Really, it makes the CBOs more liquid, which I think is part of what the Fed is trying to do.

[travelingtypist]

36. I guess Cramer's "armageddon" meltdown on

CNBC a couple of weeks ago got somebody's attention over at the
Fed.