Just a day after the Federal Reserve dropped its key short-term interest rate to 1% -- matching the generational low reached in 2003-04 -- the betting is intensifying on another cut.
Trading in futures contracts on the federal funds rate, the Fed’s benchmark, implies a 51.4% probability that the central bank will slash the rate to 0.50% on or before its next meeting on Dec. 16, according to Bloomberg News data.
On Wednesday, the probability of a cut to 0.50% was 32%.
Rate expectations may be cueing off the government’s report today that the economy shrank at an annualized rate of 0.3% in the third quarter. Although analysts figured the economy had contracted in the period, the details were ugly -- particularly the 3.1% decline in real consumer spending, the biggest drop since the vicious recession that began in 1980.
There are psychological reasons why the Fed would prefer not to cut its rate below 1%. The closer the Fed gets to zero, the more likely that investors will worry the U.S. economy is facing a long period of misery on par with what Japan faced after its real estate markets crashed in the early 1990s.
The Bank of Japan had to maintain its benchmark interest rate at or near zero for most of the 1999-2006 period, before policymakers finally felt comfortable that the economy was in a sustainable recovery.
The wording of the Fed’s statement on Wednesday suggested that "they may [cut] again if necessary, but are probably hoping that they will not have to take the zero-option on rates," said Christopher Rupkey, economist at Bank of Tokyo-Mitsubishi in New York.
Others see more cuts as inevitable. "I think the Fed is going lower," said Tom Higgins, chief economist at investment firm Payden & Rygel in L.A. "Zero is the floor."
Given the severity of the credit crunch and what that has wrought in the economy, he said, the Fed’s attitude can only be, "Why not throw everything at it?"
Present monetary policy, from here down, is virtually maxed out and meaningless. Lenders are not going to loan to borrowers who are at their limit and consumers, losing equity by the day in their prime asset, their houses, are gun shy when it comes to borrowing.
Like it or not, the days of Milton Freidman and Greenspan are over...the next administration will have 27 yo PhDs poring over tomes authored by Keynes and Galbraith to get us out of this morass with the least amount of pain. I have often been pilloried for maintaining that 'free markets' don't exist, and are a myth perpetuated by those who profit, with impunity, until the piper has to be paid. Unfortunately, all of us have to pay the piper who only played a tune for a few.
The fallacy of 'supply side' economics and tax incentives for the wealthy that capital formation can be utilized for "job creation", is nothing but a cruel ruse. How ironical that the guy who, correctly, proposed progressive taxation is none other than Dr. Strangelove's (McCain) hero, Teddy Roosevelt. That I can enjoy an above average income sitting on my butt, while millions of Americans physically sweat in a futile attempt to maintain a standard of living that can't match that of a dozen countries, and because of depreciation I pay hardly no taxes, is not right. Middle class consumers, the very core of our entire economic life, from a strictly economic sense that would benefit all of us, should be the target of tax relief...not the very wealthy who have great portions of their wealth invested in foreign countries. Or simply stashed offshore so they might enhance their tax shelters.
We need a complete overhaul of our financial system, starting with refunds of obscene management compensation in companies that effectively caused 4M home foreclosures. Lenders receiving govt money should be compelled to loan those amounts above reserves. The ethanol program should be canceled immediately and millions of ag acreage returned to edible foodstuffs. We can't control or modify oil prices, an international commodity, but we could alleviate domestic food costs. Home owners facing foreclosure should be allowed to stay in their homes...paying an amount into an escrow account until a program can be devised to mitigate the problem nationally. Any company 'too big to fail' should be reorganized before it is simply bailed out. Public works and infrastructure projects should be instituted asap. Confidence and consumerism must be restored...else nothing will work.