Economists Predict Another Rate Cut By JEANNINE AVERSA : Associated Press Writer
Apr 19, 2001 : 3:04 am ET

WASHINGTON -- The Federal Reserve's latest sneak attack against recession probably won't be the last. Economists predict another interest rate cut is likely next month to help the ailing economy.

One of the main engines of economic growth in the past has been robust spending by consumers and businesses, something economists believe will remain lackluster for a while longer.

That, along with prospects of continued stock market volatility, rising unemployment and a weak manufacturing sector, point to a fragile economy in need of more bolstering, analysts said.

"I think this spring and summer will be very tough for the economy," said Mark Zandi, chief economist at Economy.com, a consulting firm. "I am hopeful the economy will make its way through without a full-blown recession."

The central bank's one-half percentage point rate cut Wednesday marked the fourth this year and the second outside a regularly scheduled Fed meeting.

Wall Street, which had given up hope that the Fed would cut rates again before its meeting on May 15, soared on the news.

The Dow Jones industrial average enjoyed its third biggest one-day point gain in history, rising by 398.91 points. The Nasdaq rose 156.40 points, a gain of 8.1 percent which put it above 2,000 for the first time since mid-March.

As a rough rule of thumb, it takes at least six to nine months for the Fed's interest-rate reductions to make their way through the economy.

With Wednesday's rate cut, the Fed has now more than reversed a string of six rate increases from June 1999 through May of last year which it engineered in an effort to slow the economy and keep inflation at bay. When the Fed started raising rates in June 1999, the federal funds target stood at 4.75 percent, a quarter-point higher than it is currently.

Given that the first rate cut this year came on Jan. 3, the fourth quarter is the soonest it would show up in economic activity, said Merrill Lynch's chief economist Bruce Steinberg.

"If the economy has avoided falling into recession, then a strong rebound could begin by late this year or early next as monetary easing works its effect," he said.

Many economists believe the next rate cut will occur at the Fed's regular May 15 meeting, but they weren't certain whether it would be another half-percentage point or a quarter-point reduction. The size of the cut will depend on what upcoming economic data says about the economy's health, analysts said.

In its statement, the Fed said risks to the economy remained weighted mainly toward economic weakness rather than inflation, and analysts took that language to signal further rate cuts were likely.

Even if the Fed lowers rates again on May 15, there could be additional rate reductions after that.

"The authorities would continue easing if financial conditions do not improve sufficiently to make an economic rebound likely later this year," said Robert DiClemente, managing director of economic and market analysis for Salomon Smith Barney.

The Fed's rate cut Wednesday lowered the federal funds rate, the interest that banks charge each other, to 4.5 percent.

Commercial banks immediately followed suit with a half-point cut in their prime lending rate, pushing the benchmark for many consumer and business loans down to 7.5 percent, the lowest level in more than six years.

Analysts said Fed Chairman Alan Greenspan and his colleagues clearly had Wall Street investors in mind in the timing of Wednesday's surprise move, hoping to bolster consumer confidence, which has been sagging as Americans watched trillions of dollars of wealth evaporate over the past year.

"Mr. Greenspan seems to like to make moves when the markets are not looking," said Joel Naroff, president of Naroff Economic Advisors.

The big Wall Street rally on Wednesday was the most positive response since the Fed began the series of rate reductions on Jan. 3. Its reduction that day, the first cut outside of a regular meeting since the Asian crisis of 1998, triggered a 300-point Dow rally.

The market was disappointed in the next two rate cuts, which came during regularly scheduled Fed meetings, especially the March 20 announcement when investors had been hoping for a bigger three-quarter-point Fed move.

-- Anonymous, April 19, 2001

Answers

The rate cuts are coming fast and furious now, to keep the market in a positive mode. What's going to happen when they finally get down close to 0% rates, like Japan has been for awhile now? It didn't turn the Japanese economy around and won't turn ours either. But for the short term it will be a fun ride to participate in the cuts.

-- Anonymous, April 20, 2001

It's when the interest rates go negative I'll perk up. Be kind of interesting to have the banks pay me $1,000 to borrow $950... I'm sure that'll stimulate the old economy..

-- Anonymous, April 20, 2001

Carl,

What you are envisioning is called runaway inflation. You borrow $1,000 and when you go to spend it the worth is only $950. Not a good deal, except for the really big borrower who can gather enough of the funny money to pay it back when it's only worth 10% of the original.

-- Anonymous, April 20, 2001