Fed cuts key interest rate by quarter-point

Updated: 2008-05-01 14:41

WASHINGTON -- The Federal Reserve has cut a key interest rate by a quarter-point, a smaller move than the aggressive easing it undertook earlier this year.

The Fed action, announced Wednesday after a two-day regular meeting, pushed the federal funds rate down to 2 percent, its lowest level since late 2004. It marked the seventh consecutive rate cut by the central bank since it began easing credit conditions last September to combat the growing threat of a recession brought on by a deep housing slump and credit crisis.

US Federal Reserve Chairman Ben Bernanke (C) at an finance meeting in Washington, DC on April 12, 2008. The Federal Reserve is expected to cut rates as a last move in an aggressive easing cycle aimed at averting a deep economic slump. [Agencies]

The rate cut will mean lower borrowing costs throughout the economy as banks reduce their prime lending rate, the benchmark for millions of consumer and business loans.

The Fed move was in line with expectations. Wall Street believes this could well wrap up the Fed's rate cuts unless the economy threatens to fall into a worse slump than currently expected.

The Fed said it stood ready to "act as needed to promote sustainable economic growth and stability." That phrase was seen as a signal that the Fed is as worried about weak growth as it is about the risk of higher inflation.

The Fed devoted portions of its statement to both the threats of weakness and the threats that inflation could pose, likely reflecting the debate inside the central bank.

There were two dissents from the move, with both Richard Fisher, president of the Dallas regional Fed bank, and Charles Plosser, head of the Philadelphia Fed, arguing that the central bank should make no change in rates.

The central bank is walking a tightrope, trying to jump-start economic growth while also confronting the risk that if it overdoes the credit easing it could make inflation worse down the road.

Many economists believe the country has fallen into a recession. However, the government reported Wednesday that the overall economy, as measured by the gross domestic product, managed to eke out a 0.6 percent growth rate in the January-March quarter, barely in positive territory.

On the overall economy, Fed Chairman Ben Bernanke and his colleagues said in their statement explaining the decision that "economic activity remains weak" with subdued spending by businesses and households.

"Financial markets remain under considerable stress and tight credit conditions and deepening housing contractions are likely to weigh on economic growth over the next few quarters," the Fed officials said.

While saying the central bank expected inflation to moderate in coming months, the Fed statement said that "uncertainty about the inflation outlook remains high," adding that it would be necessary to "continue to monitor inflation developments carefully."

The quarter-point move followed a string of more aggressive rate cuts ranging from a half-point to three-fourths-point in the first three months of this year as the central bank was battling to stabilize financial markets roiled by multibillion-dollar losses caused by rising mortgage defaults.

That turmoil claimed its biggest victim on March 16 when Bear Stearns came to the brink of bankruptcy and the Fed stepped forward with a $30 billion line of credit to facilitate a sale of the nation's fifth largest investment bank to JP Morgan Chase.

However, credit markets, while not back to normal, have stabilized and many analysts believe the worst may be over -- although they caution that this forecast could prove too optimistic if the housing slump deepens further, causing even more mortgage defaults than now expected.

Before the Fed made its first rate cut in September, the funds rate had stood at 5.25 percent.

While many economists believe the country is in a recession, the expectation is that it will be a short one ending this summer. If that turns out to be correct, the Fed may hold rates steady for the rest of this year with the next move being a rate increase sometime next year when the economy is on sounder footing.

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