Fed again cuts rates half-point

`Terrorist attacks have significantly' raised insecurity

More cuts possible

Central bank reacts as though U.S. is in recession, some say

October 03, 2001|By Eileen Ambrose and William Patalon III | Eileen Ambrose and William Patalon III,SUN STAFF

The Federal Reserve policy-makers cut a key interest rate yesterday for the ninth time this year - sending it to a 39-year low - and signaled that it was prepared to move again as it fights an economic malaise that has deepened since the Sept. 11 terrorist attacks.

The policy-making Federal Open Market Committee cut the overnight lending rate - what banks charge one another for overnight loans - to 2.5 percent, matching its lowest level ever set in May 1962.

The central bank also cut the more symbolic discount rate half a point to 2 percent.

"The terrorist attacks have significantly heightened uncertainty in an economy that was already weak," the Fed said in announcing the rate cut.

And though the nation's long-term economic prospects are good, the Fed said near-term risks "are weighted mainly toward conditions that may generate economic weakness in the foreseeable future."

The half-point cut was widely expected, prompting a positive - but not dramatic - reaction in the stock market.

"Everyone and his shoeshine boy knew it would be" a half-point, said Alfred Goldman, chief market strategist at A.G. Edwards & Sons Inc. in St. Louis.

The Dow Jones industrial average gained 113.76 points, or 1.29 percent, to close at 8,950.59. The Nasdaq composite index rose 11.87, or 0.80 percent, to end at 1,492.33. Volume on the New York Stock Exchange was 1.27 billion shares.

Major banks, including Bank of America Corp., J.P. Morgan Chase & Co. and Bank One Corp., announced that they were cutting their prime lending rate - what they charge their best customers - by half a point to 5.5 percent. The prime rate affects commercial loans as well as some consumer borrowing, such as credit cards and home-equity credit lines.

While the U.S. economy was sagging before Sept. 11, the attacks have further eroded consumer confidence and pushed down consumer spending - which accounts for two-thirds of U.S. economic activity.

In fact, although statistics don't yet show it, many economists believe the economy has soured so deeply and quickly that it's almost certainly entrenched in its first recession since 1990-1991.

"This is a Fed that's no longer hedging against a recession - they are fighting a real recession," albeit one that was event-triggered, said Diane Swonk, chief economist with Bank One Corp. in Chicago.

A recession is typically defined as two consecutive quarters of a contracting economy. Because economic reports tend to lag, recessions are often labeled well after they've ended.

With the near-term prospects so dour, many economists say the central bank's rate-cutting campaign still has room to run. Before yesterday, the Fed had already cut rates by 3.5 percentage points this year. In normal times, such strong moves would give the central bank time to step back and give its actions time to work.

But not this time.

"The economy is limping along. We are probably in a recession," said Gus Faucher, senior economist with Economy.com in West Chester, Pa. "There is a feeling that both the Fed and the federal government need to take action to provide further stimulus."

Although it can take six to 18 months for a rate cut to work its way through the economy, the Fed is expected to pare rates again at its next meeting, in November.

Opinions again differ on just how aggressively the central bank will act. Futures traders were betting yesterday on a quarter-point reduction no later than the Fed's Dec. 11 meeting, taking the overnight lending rate to 2.25 percent. But many economists said yesterday that short-term rates must fall to 2 percent.

And the Fed isn't acting alone.

The Bush administration's tax cut and rebate program is putting hundreds of extra dollars into the hands of most American taxpayers. And Congress is allocating tens of billions of dollars for reconstruction, domestic security and possible military action. Most analysts expect federal spending to rise, too.

Sun staff writer Kristine Henry and Bloomberg News contributed to this article.

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