Fed trims rates again Quarter-point cut on short-term loans is third in 7 weeks

Further reduction expected

Action is intended to bolster faltering overseas economies

November 18, 1998|By Bill Atkinson | Bill Atkinson,SUN STAFF

The Federal Reserve Board cut interest rates yesterday for the third time in seven weeks to help boost fragile economies around the world and keep U.S. markets rolling.

Economists applauded the move by the Fed's policy-setting arm -- the Federal Open Market Committee -- and they expect further cuts later this year and next year.

"This is not about the domestic economy," said Alan Levenson, chief economist at Baltimore-based T. Rowe Price Associates Inc.

"The domestic economy has been fine. The global markets are on the mend, and they wanted to keep it that way."

The Fed cut the federal funds rate -- the rate banks charge one another for overnight loans -- by a quarter-point to 4.75 percent. And it also reduced the discount rate -- the rate the Fed charges banks directly for loans -- a quarter-point to 4.5 percent.

The move followed quarter-point reductions in the overnight bank rate Oct. 15 and Sept. 29.

A number of banks immediately trimmed their prime lending rates yesterday.

Southwest Bank, a community bank in St. Louis, was the first to announce that it would cut its prime rate to 7.75 percent from 8 percent, effective today. Several much larger banks followed, including BankAmerica Corp., Chase Manhattan Bank, J. P. Morgan & Co. Inc.

Economists and investors had anticipated the rate cut, and they said that if the Fed hadn't t followed through, it would have been disastrous for the U.S. stock market, which has been re-energized by the two previous reductions.

Since the Oct. 15 cut, the Dow Jones industrial average of 30 blue-chip stocks has risen 1,017.5 points, or 12.8 percent.

"The stock market has been feeding on a steady diet of lower and lower interest rates," said Sung Won Sohn, chief economist at Wells Fargo & Co. in Minneapolis. "If the Fed didn't cut interest rates today, the stock market would have corrected significantly. At this juncture, we cannot afford that."

The Dow barely budged for most of the day, as investors waited for word from the Fed. Shortly after 2 p.m., the market fell about 30 points, and then shot up 174 points before closing down 24.97 points to 8,986.28.

"We have seen some high drama here," said Angel Mata Jr., head of listed equity trading at Baltimore-based Legg Mason Wood Walker Inc. "There was so much tension trading almost stopped. People were really concerned about what the market was going to do all day."

The Fed's cut should add juice to the U.S. economy, which is still expanding, but more slowly than in previous years, economists said.

While a quarter-point reduction isn't much, the three cuts combined will enable a homeowner to save $750 a year on a $100,000 mortgage.

"I am not going to turn that down," said David Wyss, chief economist at Standard & Poor's DRI in Lexington, Mass.

The reduction also means consumers will get lower rates on home equity lines and credit cards that are tied to the prime rate, and businesses should be able to borrow money more cheaply, economists said.

But the Fed's decision wasn't aimed so much at the U.S. consumer as at helping ailing economies in Asia, Russia and Latin America.

"Although conditions in financial markets have settled down materially since mid-October, unusual strains remain," the central bank said in a release.

Among its biggest concerns are Japan, the world's second-largest economy, whose banking system is in shambles, and Brazil, which has lost billions of dollars in capital because of a weakening economy.

"With the importance of trade and the interconnection of global financial markets, we can't just be inward looking," said Veronika White, economist at First Union Corp. in Philadelphia. "If the largest economy in the world falters, we are going to take the rest of the world with us."

Brazil, for example, is important because it is the world's ninth largest economy. A healthy Brazil means U.S. exports flow to Latin America, and banks continue making loans to the region.

"If Brazil sneezes, the rest of Latin America catches pneumonia," Sohn said. "There is a lot at stake."

Sohn said the rate cut should spur investment in the country's businesses.

"Without the cut, foreign investors would have been scared away," he said. "We must make Brazil an important success story."

Brazil's Bovespa index rallied on the news, rising 4.08 percent yesterday.

Economists said they expect the U.S. economy to keep growing in the fourth quarter and into next year. Most of them expect more rate cuts, as Federal Reserve Chairman Alan Greenspan tries to keep the world economy in balance.

Sohn said that, for now, Greenspan has been able to "postpone" a recession and cushion the U.S. economy from overseas shocks.

"I don't believe Chairman Greenspan can fix the world's problems," he said. "The only thing he can do is make the pain more bearable by cutting interest rates."

Pub Date: 11/18/98

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