FEDERAL RESERVE CUTS FEDERAL FUNDS RATE

As many expected, the Federal Reserve cuts the Federal Funds rate, the rate at which banks can borrow from the Fed on an overnight basis, by one-quarter point on Wednesday. This may be the last rate cut for some time as concerns over inflation may cause the Federal Reserve to hold rates or even raise them going forward.

From The New York Times:

The Federal Reserve, mixing concern about the feeble economy with worries about rising inflation, reduced short-term interest rates Wednesday for the seventh time since September, while signaling a pause in any additional rate cuts for now.

The Fed’s action brought the federal funds rate — the rate it charges banks for overnight loans — to 2 percent, from 2.25 percent, the lowest level since November 2004. It defended that step as necessary to counter the ailing housing sector and the “considerable stress” shadowing financial markets.

The move followed new indications that the economy remained fragile at best. The Commerce Department reported early Wednesday that the economy expanded only 0.6 percent on an annualized basis in the first three months of 2008, short of an overall downturn but still far from healthy.

BERNANKE TAKES GRIM VIEW ON ECONOMIC GROWTH POSSIBILITIES

In testimony this morning before a Congressional committee, Federal Reserve chairman Ben Bernanke stated that economic growth was likely to be minimal and that contraction of the economy was possible in the first half of the year. Mr. Bernanke's comments now seem to be in line with those of most reputable economists, who for some time have been stating that it is not only possible, but likely that the United States GDP would contract in the first half of the year. If this does happen, it would become an official recession.

From The New York Times:

Over all, Mr. Bernanke said, “It now appears likely that real gross domestic product will not grow much, if at all, over the first half of 2008 and could even contract slightly.”

While he said growth would likely recover in the second half of the year, and return to a “sustainable pace” in 2009, he warned that the current turbulence made the economic outlook difficult to predict.

“The uncertainty attending this forecast is quite high and the risks remain to the downside,” he said.

U.S. DOLLAR AT $1.5779 PER EURO, EXPECTED TO WEAKEN FURTHER

The U.S. dollar traded at $1.5779 in late trading today and some are expecting it to fall past $1.60 if the Federal Reserve lowers interest rates at the April 30th meeting. The Fed is widely expected to lower rates at least a quarter of a point and perhaps a half point or more at that meeting, or perhaps even before, in an effort to use monetary policy to stimulate the economy. So far this year, the dollar has fallen by 7.5% against the euro.

BERNANKE ASKS BANKS TO FORGIVE PORTION OF MORTGAGES

From Bloomberg:

Federal Reserve Chairman Ben S. Bernanke, battling the worst housing recession in a quarter century, urged lenders to forgive portions of mortgages for more borrowers whose home values have declined.

``Efforts by both government and private-sector entities to reduce unnecessary foreclosures are helping, but more can, and should, be done,'' Bernanke said in a speech in Orlando, Florida today. ``Principal reductions that restore some equity for the homeowner may be a relatively more effective means of avoiding delinquency and foreclosure.''

STAGFLATION MAY BE BACK

We are all aware of the definitions of inflation and deflation, price increases and decreases over time; however, there is another 'flation, stagflation, which many college students today are not familiar with, but those who lived through the 1970s wish they could forget. Stagflation is made up of two words, stagnation and inflation. The stagnation refers to a stagnating economy, in other words one in which there is slow or no growth. That is combined with inflation to form stagflation, a period of slow or no growth and rising prices, an unpleasant combination that the United States has been happy to avoid for decades, but one that may be happening again right now.

From The New York Times:

Lately, many people are hearing an echo — faintly perhaps but distinctly audible — of the stagflation of the 1970s.

Even as economic growth sags, oil and gasoline prices are surging to new heights. Gold is on the rise, along with the prices of such basic commodities as wheat and steel. And on Wednesday, with the latest government report on consumer prices, there are signs that overall inflation, after years of only modest increases, may be breaking out of its box.

“They are cutting rates with a bill to be paid later," said John Ryding, chief United States economist at Bear Stearns. “The question is not, will we get inflation, but how much will it cost to stuff the genie back in the bottle. This has the feel of 1970s stagflation.”

Over the last 12 months, consumer prices are up 4.3 percent on average, according to the Labor Department. The core index of consumer price inflation, which excludes food and oil, was 2.5 percent higher in January than a year earlier, significantly above the Fed’s unofficial comfort zone of a 1 to 2 percent underlying inflation rate. That’s a far cry from the double-digit inflation rates that battered the economy at times in the 1970s, but still worrisome.

CONSUMER PRICE INDEX UP 0.4% IN JANUARY

Consumer prices rose more than expected in January led by sharp increases in food, gasoline, and transportation. This data shows that inflationary pressures are gaining, causing many to predict that the Federal Reserve will be forced to keep key interest rates at current levels or potentially raise them, thus fighting inflation, but potentially causing the economy to stall or worse during what many already see as a weak economy.

From The New York Times:

The Consumer Price Index rose 0.4 percent in January, a bigger gain than economists had predicted. Over the last 12 months, the index has surged by 4.3 percent, one of the highest year-over-year rates in decades, the Labor Department said.

The rise was led by increases in the costs of food, gasoline, shelter, and transportation. The so-called core inflation rate, which excludes food and gasoline prices, ticked up 0.3 percent last month.

The core rate is 2.5 percent above its level in January 2007, above the Fed’s recognized comfort zone ceiling of 2 percent.

PHILADELPHIA FED'S SURVEYS SIGNAL A RECESSION

The Federal Reserve Bank of Philadelphia released results of its Survey of Professional Forecasters and Anxious Index today with both pointing toward a recession. The Survey of Professional Forecasters asks economists to predict the possibility of GDP contraction in the current quarter while the Anxious Index asks the same for the next quarter. A score of higher than 40% is considered a sign that a recession is likely. The Survey of Professional Forecasters score was 47% while the Anxious Index was 42.9%. How accurate have the surveys been in predicting recessions? Since 1968 there have been six recessions. Both surveys have predicted all six.

Federal Reserve Bank of Philadelphia's Survey of Professional Forecasters and Anxious Index.

BANK OF ENGLAND CUTS RATE, ECB HOLDS STEADY

The Bank of England, the central bank of the United Kingdom, cut its key interest rate from 5.5% to 5.25% today while the European Central Bank (ECB) held firm at 4.0%. This is the second rate cut for the Bank of England while the ECB has been at 4.0% since June of 2007.

From USA Today:

Many say the bank [ECB] may have to cut rates later this year despite the rising level of inflation in the 15-nation euro zone — a bloc of more than 318 million people that accounts for more than 15% of the world's gross domestic product.

The Bank of England's decision was expected given that its governor, Mervyn King has acknowledged that the bank is facing a "difficult balancing act," with inflationary pressures from higher energy and food prices and a falling British pound weighed against data showing slowing economic activity and turbulence on financial markets.

"The prospects for output growth abroad have deteriorated and the disruption to global financial markets has continued," the Bank of England said in the statement explaining its rate cut.

FED MAKES 1/2 POINT RATE CUT

For the second time in eight days the Federal Reserve has moved to cut interest rates, this time trimming 1/2 point from the federal funds rate, which now sits at 3.0%.

The move today means that in eight days the Fed has lowered the federal funds rate by 1.25%. Why? By making these cuts the Fed is using monetary policy to attempt to put more money into the money supply, which should stimulate the economy. The hope is that these moves will help avert, or at the minimum lessen the impact of, a recession.

From The New York Times:

In lowering its benchmark Federal funds rate by half a point, to 3 percent, the central bank acknowledged that it is now far more worried about an economic slowdown than rising inflation, and it left open the possibility of additional rate reductions.

From The Federal Reserve Board of Governors:

Financial markets remain under considerable stress, and credit has tightened further for some businesses and households. Moreover, recent information indicates a deepening of the housing contraction as well as some softening in labor markets.

The Committee expects inflation to moderate in coming quarters, but it will be necessary to continue to monitor inflation developments carefully.

In a related action, the Board of Governors unanimously approved a 50-basis-point decrease in the discount rate to 3-1/2 percent.

FED MAKES EMERGENCY 3/4-POINT RATE CUT

The Federal Reserve made their first emergency rate cut since September of 2001 and the largest cut since 1984 this morning.

From The New York Times:

“It’s a once-in-a-generation event,” said Mark Zandi, chief economist at Moody’s Economy.com. In recent years, the Fed has rarely acted between scheduled meetings of the committee, and almost always in increments of one-quarter or one-half point. It was the biggest short-term cut since October 1984.

In a statement Tuesday morning, Fed officials said they made the decision to lower rates after “a weakening of the economic outlook” and noted that “broader financial market conditions have continued to deteriorate.”

USING MONETARY AND FISCAL POLICY TO STIMULATE THE ECONOMY

With most economic indicators heading south, there is little debate that the country is headed for a slowdown or even a recession. To stimulate the economy and lessen the impact of any downturn, the government is prepared to use two weapons: monetary policy and fiscal policy.

Monetary policy is controlled by the Federal Reserve, the United States' central bank. The idea behind monetary policy is that the Fed can increase or decrease the supply of money in the economy. If the economy is overheating and/or inflation is a worry, the Fed can decrease the supply of money in the economy, slowing the economy down to a more acceptable level. This is considered a restrictive or contractionary monetary policy. If the economy is sluggish, as is the case now, the Fed can increase the money supply in the economy. While there are several ways this can be done, none gets more attention than the lowering of key interest rates, which the Fed has done recently, and is expected to do again very soon. So, while there may be debate about whether the Fed acted in a too-little, too-late fashion, there can be no argument regarding the Fed's actions being consistent with an attempt to stimulate the economy, which is called an expansionary monetary policy.

Fiscal policy concerns governmental revenues, which are primarily taxes, and expenditures. Fiscal policy is controlled by the president and congress. Neither usually get to dictate a preferred policy, but rather must work together through compromise to establish a tax and spending program. During an economic downturn, as we are experiencing now, fiscal policy can be used to stimulate the economy. How? Typically by some combination of cutting taxes, tax rebates, and governmental spending, all designed to put money into the pockets of consumers and businesses so that they will spend, spend, spend. The more and the faster they spend, the less likely a downturn will continue or worsen.

President Bush is working on a stimulus plan to put approximately $150 billion into the economy, which is roughly 1% of GDP. Democrats agree that a stimulus plan is needed, but there is disagreement about how to tailor such a plan. Democrats want tax rebates for most Americans combined with one-time increases in programs such as food stamps, unemployment benefits, and home heating assistance for the poor. President Bush wants a tax relief-only plan that gives $100 billion to individuals and $50 billion to businesses. Both plans would likely provide needed relief and stimulate the economy. Now, it is up to our governmental leaders to compromise on a plan that both they and the American people can live with and benefit from.

For more information on the fiscal stimulus plans being developed, check out the following articles:

BUSH PUSHES $150B ECONOMIC AID PACKAGE - AP via Yahoo

BUSH PROPOSING $145 BILLION PLAN TO SPUR ECONOMY - The New York Times

TAX REBATES SEEN AS ECONOMIC STIMULUS - USA Today

FED OFFICIAL'S CANDID REMARKS CAUSE STOCKS TO RISE

From The New York Times:

Stocks soared on Wall Street today after a top Federal Reserve official appeared to open the door for additional interest rate cuts, pledging to follow “flexible and pragmatic policy making” as the central bank decides how to cope with the current financial upheaval.

The unusually candid remarks by the Fed’s vice chairman, Donald L. Kohn, were taken as a sign that the Fed would give serious consideration to a rate cut at its Dec. 11 meeting. The Dow Jones industrial average jumped more than 330 points.

PERSONAL INCOME AND CONSUMER SPENDING REPORT ISSUED

From The New York Times:

Personal income and spending continued to grow in September, a government report showed today, suggesting strength in the economy even as analysts fear widespread troubles in the next few months.

Still, consumption began to slow, and manufacturers may be starting to feel the effects of a tightening housing market.

Personal spending, which accounts for two-thirds of the gross domestic product, grew at 0.3 percent in September, a slight deceleration from the 0.5 percent growth in August, the Commerce Department said today.

Spending is up 5.6 percent over the last 12 months, probably bolstered by a comparable rise in personal income, which has increased 6.8 percent over the last year.

Income rose 0.4 percent last month after an identical gain in August. Disposable income, a measure of the money employees take home after taxes, dipped to 0.4 percent from 0.5 percent in August.

Today’s report offered few surprises, though it could provide some comfort to economists who predict a decline in economic growth in the fourth quarter. Analysts are waiting for a worsening housing recession to make its way into the broader economy, but for now consumers appear to be comfortable with opening their wallets.

The personal consumption expenditures index, an inflation gauge closely watched by the Federal Reserve, also stayed steady. Core inflation, which excludes volatile food and energy prices, rose 1.8 percent on an annual basis, keeping pace with a downward trend over six months.

But overall inflation, as measured by the P.C.E. deflator, is up 2.4 percent for the year, above the Fed’s so-called comfort zone of 1 percent to 2 percent. That rise, compared with 1.8 percent in August, likely reflected the surging cost of crude oil, which pushes up gasoline and energy prices.

FEDERAL RESERVE CUTS KEY RATE QUARTER POINT

From The New York Times:

The Federal Reserve gave investors what they wanted today, lowering short-term rates for the second time in two months.

But it quietly warned Wall Street not to expected to assume that more reductions are ahead.

The move, to reduce short-term rates by a quarter point to 4.5 percent, was aimed at preventing the meltdown in housing from crippling the rest of the economy. But the vote was not unanimous, reflecting disagreement among policymakers about the risks that confront the economy.

Investors were generally pleased, and stocks were up modestly after briefly giving up most of their gains for the day immediately after the announcement. But Treasury prices fell, reflecting some concerns that lower interest rates could stoke inflation. Oil prices surged nearly 4 percent and gold futures were up about 1 percent. The dollar modestly weakened against other major currencies.

CONSUMER INFLATION UP 0.3% IN SEPTEMBER

From The New York Times:

Inflation stayed steady in September, indicating that the Federal Reserve has room to cut interest rates again, but most likely not this month.

Prices of consumer goods ticked up 0.3 percent in September, slightly faster than expectations and a reversal of a 0.1 percent decline in August. The core rate, a key gauge of inflation that excludes more volatile food and energy prices, held at 0.2 percent, where it has stood since June, the Labor Department said this morning.

Core inflation rose 2.1 percent since last September — the lowest year-over-year growth in 18 months — suggesting that pricing pressures have stayed in check. But the Fed, which keeps close tabs on inflation to determine its benchmark interest rates, prefers a rate between 1 percent and 2 percent. A bubbling-up of inflation, coupled with recent reports that point to a more resilient economy than analysts had expected, makes it more likely the Fed will keep rates unchanged when it issues its decision on Oct. 31.

SOME POSITIVE ECONOMIC NEWS, FINALLY

Although surveys indicate that consumer confidence is falling, consumer spending was on the rise in August. And, while inflation is a concern, core PCE, an inflation figure favored by the Federal Reserve that excludes food and energy, came in at an acceptable 1.8% on an annual basis.

From The New York Times:

Americans made more purchases than expected in August and a crucial inflation indicator cooled, the Commerce Department said yesterday, two indications that the economy is still somewhat insulated from turmoil in the residential housing market.

Consumer spending rose a better-than-forecast 0.6 percent last month, the largest uptick since April, led by strong sales of durable goods. Income increased 0.3 percent, down from a 0.5 percent rise in July but in line with Wall Street forecasts. The rate of wage increases was also slightly down from July.

Consumers also caught a break on rising prices in August. A closely watched inflation gauge, the core personal consumption expenditure deflator, posted its smallest year-over-year gain since February 2004. The core deflator index, which excludes food and energy prices, rose 1.8 percent on an annual basis, continuing a downward trend that stretches back to February.

FED MAKES HALF-POINT CUT

From USA Today:

The Federal Reserve cut interest rates a half-percentage point Tuesday in a dramatic bid to shore up confidence in the economy and ease worries about a credit crunch in financial markets.

Fed Chairman Ben Bernanke and his colleagues unanimously voted to lower their target for short-term interest rates, which influences a wide variety of borrowing costs, to 4.75% from 5.25%. The cut was the first from the Fed in more than four years and followed 15 months of steady rates from the central bank.

In their post-meeting statement, Fed policymakers said the credit squeeze "has the potential" to sharpen the housing decline and harm the larger economy. They said turmoil in financial markets had "increased the uncertainty" about the economic outlook.

"Today's action is intended to help forestall some of the adverse effects on the broader economy that might otherwise arise from the disruptions in financial markets and to promote moderate growth over time," they wrote.

The Fed on Tuesday also cut the discount rate, the rate it charges banks for direct loans, by a half-percentage point, in a move to facilitate lending. A month ago, the Fed, in a rare move, cut the discount rate, which usually moves in tandem with the Fed's main interest rate lever, to help ease the credit crunch.

Financial markets moved sharply higher in response to the Fed move Tuesday, with the Dow Jones industrials adding more than 100 points within minutes of the Fed announcement. They closed up more than 300.

IS THE U.S. DOLLAR IN SERIOUS TROUBLE?

From the International Herald Tribune:

Finance ministers and central bankers have long fretted that at some point, the rest of the world would lose its willingness to finance the United States' proclivity to consume far more than it produces - and that a potentially disastrous free-fall in the dollar's value would result.

But for longer than most economists would have been willing to predict a decade ago, the world has been a willing partner in American excess - until a new and home-grown financial crisis this summer rattled confidence in the country, the world's largest economy.

On Thursday, the dollar briefly fell to another low against the euro of $1.3927, as a slow decline that has been under way for months picked up steam this past week.

"This is all pointing to a greatly increased risk of a fast unwinding of the U.S. current account deficit and a serious decline of the dollar," said Kenneth Rogoff, a former chief economist at the International Monetary Fund and an expert on exchange rates. "We could finally see the big kahuna hit."

So long as Americans buy more than they earn from exports - and they did, creating a current account deficit of $850 billion last year - the rest of the world financed the binge by bringing dollars into the United States for investment in stocks, bonds, real estate or other assets, thereby preserving demand for the dollar.

While most economists just a few months ago would have dismissed the prospect of a dollar collapse outright, they now are debating the possibility that something on par with the dollar debacle of the 1970s might just happen again.

When a currency collapses, the central bank can push up interest rates to attract needed investment, but strangle the economy in the process. Alternatively, it can let the currency fall and watch prices of imports - and eventually competing domestic goods - rise sharply.

Double-digit inflation resulted in the 1970s and only a global recession brought it to an end.

The European Central Bank put off an interest rate increase it had planned for September, but is still inclined to tighten credit at least one more time by the end of this year. By contrast, the U.S. Federal Reserve has hinted at a rate cut at its meeting next Tuesday - a step that would diminish the appeal of dollar-denominated assets, almost certainly sending the dollar lower.

Pressed to make an educated guess, most economists opt for calm, believing the dollar is unlikely to go into a tailspin even as they mark up the odds of one.

The major holders of dollars - notably the Chinese, with their $1.3 trillion in currency reserves - have little incentive to see the dollar weaken, and their support provides the dollar with a bulwark of strength. And since investors need to stay diversified, and U.S. markets are deep and liquid, abandoning the dollar wholesale is hardly a realistic option.

"Rather than a precipitous decline, we are probably be looking at a move steadily lower," said Simon Derrick, chief currency strategist at Bank of New York in London.

GREENSPAN BOOK CRITICIZES BUSH AND REPUBLICANS FOR LACKING FISCAL DISCIPLINE

From The Wall Street Journal:

In a withering critique of his fellow Republicans, former Federal Reserve Chairman Alan Greenspan says in his memoir that the party to which he has belonged all his life deserved to lose power last year for forsaking its small-government principles.

In "The Age of Turbulence: Adventures in a New World," published by Penguin Press, Mr. Greenspan criticizes both congressional Republicans and President George W. Bush for abandoning fiscal discipline.

Mr. Greenspan, who calls himself a "lifelong libertarian Republican," writes that he advised the White House to veto some bills to curb "out-of-control" spending while the Republicans controlled Congress. He says President Bush's failure to do so "was a major mistake." Republicans in Congress, he writes, "swapped principle for power. They ended up with neither. They deserved to lose."

Mr. Greenspan writes that when President Bush chose Dick Cheney as vice president and Paul O'Neill as treasury secretary -- both colleagues from the Gerald Ford administration, during which Mr. Greenspan was chairman of the Council of Economic Advisers -- he "indulged in a bit of fantasy" that this would be the government that would have resulted if Mr. Ford hadn't lost to Jimmy Carter in 1976. But Mr. Greenspan discovered that in the Bush White House, the "political operation was far more dominant" than in Mr. Ford's. "Little value was placed on rigorous economic policy debate or the weighing of long-term consequences," he writes.

From serving under so many presidents, Mr. Greenspan concludes that there's something abnormal about anyone willing to do what it takes to get the job. Mr. Ford, he writes, "was as close to normal as you get in a president, but he was never elected." The Watergate tapes, he says, show Richard Nixon as "an extremely smart man who is sadly paranoid, misanthropic and cynical." He recalls telling someone who had accused Nixon of anti-Semitism that he "wasn't exclusively anti-Semitic. He was anti-Semitic, anti-Italian, anti-Greek, anti-Slovak. I don't know anybody he was pro."

Ronald Reagan's ability to instantly tap one-liners and anecdotes in support of a particular policy represented an "odd form of intelligence." He describes Bill Clinton as "a fellow information hound" with "a consistent, disciplined focus on long-term economic growth" whose relationship with Monica Lewinsky "made me feel disappointed and sad."

Mr. Greenspan retired in early 2006 after 18 years as chairman of the Federal Reserve. He had served under six presidents as either Fed chairman or adviser. He now runs a private consulting company; his only formal public role is adviser to British Prime Minister Gordon Brown.

FED EXPECTED TO LOWER INTEREST RATES

From USA Today:

The Federal Reserve will lower interest rates by half a percentage point by March in the face of sluggish economic growth, according to a survey of economists from the National Association of Business Economics released Monday.

The survey, reflecting the estimates of 46 economists, was taken Aug 2-23.

The economists forecast a 50-basis-point cut in the federal funds rate by the end of the first quarter of 2008, up from May's forecast of 25 basis points.

The Fed is scheduled to meet next on Sept. 18.