Fed regional banks split on October discount rate cut

By David Lawder

WASHINGTON (Reuters) - The Federal Reserve's regional banks were split over the direction of discount rates ahead of the Fed's last policy meeting in late October, with seven banks seeking to hold the rate steady and five seeking decreases, Fed documents showed on Tuesday.

Minutes of the Federal Reserve Board's discount rate meetings showed that the directors of Fed banks in Boston, Cleveland, New York and San Francisco voted to lower the discount rate by 50 basis points to 1.25 percent just ahead of the October 28-29 Federal Open Market Committee meeting. The Atlanta Fed sought a 25-basis-point cut.

The Fed banks in Richmond, Chicago, Kansas City, St. Louis, Minneapolis, Philadelphia and Dallas had wanted to maintain the existing rate of 1.75 percent, the minutes showed.

The discount rate is what the Fed charges for direct loans to banks from its discount window. While not all of the Fed regional bank presidents are voting members of the Fed's policy-setting committee, their requests can reflect regional differences in conditions and can influence debate over rates.

On October 29, the Fed announced a half-percentage point cut in the federal funds rate to 1 percent and a cut of the same size in the discount rate to 1.25 percent. The move followed an emergency half-point fed funds rate cut on October 8 as part of a coordinated effort with other global central banks to beat back a financial crisis.

But according to minutes of an October 27 Fed board meeting, many regional bank directors believed the emergency rate cut was not enough.

"Federal Reserve Bank directors in favor of a 50-basis-point cut in the primary credit rate pointed out that heightened stress in financial markets and considerable deterioration in the outlook for economic activity made a strong case for a substantial easing in the stance of monetary policy," the Fed said in the minutes.

"They also believed that inflationary pressures were likely to abate somewhat because of sharp declines in commodity prices and increased economic slack,"

Federal Reserve directors in favor of maintaining the existing rate also noted weakening activity as market stress increased.

"They believed, however, that the recent reduction in the primary credit rate and the extraordinary actions taken to recapitalize banks and foster liquidity in financial markets had not had enough time to take effect,"

The minutes of earlier Fed meetings also revealed a shift in the stance of the more traditionally hawkish Dallas and Kansas City Feds to a more neutral stance. In late September, the Kansas City and Dallas Feds sought a quarter-point increase in the discount rate to 2.5 percent.

These directors cited upside inflation risks as outweighing the downside risk to the economic outlook at that time.

But by late October, after credit market turmoil deepened, the coordinated emergency rate cut and the passage of a $700 billion financial rescue bill by Congress, the two banks had shifted their stance to favoring keeping rates steady at 1.75 percent.

(Editing by Leslie Adler)