CHICAGO Nov 19 The Federal Reserve seems
almost guaranteed to wade into unchartered waters in December
and cut its benchmark lending rate below 1.0 percent.
Unrelenting bad news on the U.S. economy, reflected most
recently in minutes from the Federal Open Market Committee's
October policy meeting issued on Wednesday, suggest another
interest rate cut is in the works, even as rates approach the
so-called "zero bound."
"Some members were already feeling that additional policy
easing could be appropriate ... given recent data and
developments in financial markets, 'some' may have turned into
'most," said Rudy Narvas, analyst at 4CAST Ltd in New York.
Short-term interest rate futures fully price a cut in the
fed funds rate to 0.5 percent from 1.0 percent at or before the
Dec 16 policy meeting.
The effective fed funds rate averaged 0.63 percent in May
1958, the lowest level shown by Federal Reserve Board records
dating back to 1954.
The FOMC cut the rate to 1.0 percent in October, the latest
move in an easing cycle that started in September 2007, when
the funds rate was 5.25 percent, as the central bank attempts
to pump life into the U.S. economy.
Sky-high futures prices also reflect ideas that the cash
funds rate will continue to trade below the target rate. Cash
fed funds last traded at 0.3125 percent.
Although some policy-makers have noted technical problems
in cutting the target rate below 1.0 percent, opposition could
melt away in the face of current economic reality.
"The economy has basically imploded," said Mark Lane, an
analyst with William Blair and Co in Chicago. "Consumer
confidence is at an all-time-low, risk tolerance is at an all
time low, and corporate credit spreads are at all time highs."
Wednesday's FOMC release included updated forecasts,
assembled at the Oct 28-29 meeting, that pointed to a long if
not necessarily deep economic recession.
"While some expected an improving financial situation to
contribute to a recovery in growth in mid-2009, others judged
that the period of economic weakness could persist for some
time," the Fed said.
The Fed lowered its "central tendency" forecast range for
2008 gross domestic product growth to between zero and 0.3
percent from June's 1.0 to 1.6 percent. Some at the FOMC said
the economy could shrink by 1.0 percent in 2009 with the
jobless rate as high as 8.0 percent versus the current 6.5
Even those assessments, cobbled together in the final days
of October, might need to be lowered given the recent labor
market deterioration that will only feed the vicious cycle of
In response, U.S. stock markets were pushed to the brink.
The Dow Jones industrial average shed another 5.0 percent and
closed below 8,000 points for the first time since 2003.
KOHN -- LEARN FROM JAPAN
The FOMC minutes were reported on a day when a decline in
U.S. core consumer prices for October prompted chatter about an
evolving deflation risk -- just months after commodity prices
were flying high and the Fed was fretting about inflation.
Donald Kohn, the Fed's influential vice chairman, was on
deflation alert on Wednesday, saying the U.S. central bank
should learn from Japan's "lost decade" of economic growth in
"Some people have argued that we should save our
ammunition, that interest rate cuts aren't effective. I think
that if we were to see this (deflation) possibility, that we
should be very aggressive with our monetary policy, as
aggressive as we can be," Kohn said while answering questions
after a speech at the Cato Institute in Washington.
The Labor Department said that consumer prices fell by a
record 1.0 percent in October as gasoline and other energy
Core prices, stripped of food and energy, fell by 0.1
percent, reflecting a drop in car prices, especially used cars,
and in lodging, apparel costs and airfares.
"This report clearly reflects the crunch in discretionary
consumers' spending, which is likely to persist for the
foreseeable future," said Ian Shepherdson, chief U.S. economist
at High Frequency Economics in Valhalla, New York.
At the same time, reports this week have shown no end to
the housing market decline, which most analysts see as a
prerequisite to economic stability.
October housing starts reported on Wednesday fell by 4.5
percent to a record low, and new applications for building
permits plunged by 12 percent.
"Houses under construction fell 2.2 percent month on month
in October. This is the 29th consecutive month of contraction,"
said Yelena Shulyatyeva, economist at BNP Paribas in New York.
(Ros.Krasny@thomsonreuters.com; +1 312 408 8592; Reuters