January 31, 2008

Bernanke Fed revs up effort to head off recession

WASHINGTON (AFP) - The US Federal Reserve has stepped up its campaign to head off recession with another half-point rate cut as part of an aggressive move to avert a downward economic spiral, analysts say.

The cut Wednesday in the federal funds rate to 3.0 percent came just eight days after an emergency cut of 0.75 percentage points in the face of a global stock market rout and concerns the world's biggest economy was sinking fast.

Analysts say the Fed headed by Ben Bernanke is acting more aggressively than any time in the past two decades.

"We must go back to early 1985 to find a period when rates fell more sharply in such a short period of time," said Robert Brusca at FAO Economics.

Brusca said Fed members have an "amorphous fear of recession snowballing and getting out of hand."

Although the US has survived recessions before, Brusca said some see a more troublesome scenario.

"Having seen what happened to Japan with its property market ills, the Fed decided not to risk that a weak housing market topped by a recession added to a weakened financial sector that could turn into an economic disaster," Brusca said.

The cuts in the federal funds rate, used for overnight interbank loans, can help lower a wide range of borrowing costs for consumers and businesses, and as such can help spur activity in an economy buffeted by the worst housing slump in decades which has spilled over to the financial sector.

"The FOMC has clearly stated that the economy is job one," said Joel Naroff at Naroff Economic Advisors.

"The members recognize that the threats to the financial markets and therefore economic growth remain and that they had to get the Fed into accommodation mode. They have done so in a very dramatic fashion and have made the financial markets very happy."

As the Fed members met, the Commerce Department reported US economic growth slowed sharply to a 0.6 percent annual pace in the fourth quarter of 2007. Other data however have been mixed.

Robert MacIntosh, chief economist at Eaton Vance Management, said the Fed is scrambling to catch up to a rapidly deteriorating economic backdrop.

"The fact that this came just eight days after the last cut speaks volumes about how far behind the curve the Fed thinks they are," MacIntosh said.

"And I think the language indicates they're going to cut further."

MacIntosh said he believes the Fed may cut rates as low as 2.0 percent to help avert a recession, but not go as far as the 1.0 percent funds rate that some say precipitated the housing bubble.

"I think they're trying to keep us out of a recession," he said. "Whether this is enough or soon enough or too late remains to be seen."

Brian Bethune at Global Insight said the Fed wants to guard against negative sentiment taking hold as Congress debates an economic stimulus package aimed at boosting consumer and business spending.

"The Fed needs to throw out a life raft to the economy pending the fiscal stimulus measures that are expected to move through Congress in the next week or so," Bethune said.

"The earliest that consumers can expect to get relief from the package is June."

Some analysts say the Fed will be reluctant to cut further for fear of reigniting inflation but may be forced into more cuts if the economy deteriorates further.

The latest cut "can be seen as a second installment in the rapid and significant adjustment in the degree of monetary accommodation that began last Tuesday," said Peter Kretzmer, senior economist at Bank of America.

"We believe that the size of the easing was likely 'one-time' in nature, and expect the FOMC to be more judicious in the months ahead. At this time, we believe modest additional easing likely will take place, depending on the evolution of the economic releases."

Brusca said the Fed may have to move quickly to lift rates if the economy steadies.

"Ironically, the more successful the Fed is in stabilizing the economy the more of an inflation problem it will have and the sooner it will have it," he said.

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