US Mulls Cutting Interest Rate for the Third Time

Published October 28th, 2019 - 07:30 GMT
The last time the Fed reduced rates three times, while the economy was growing, was in 1998.
The last time the Fed reduced rates three times, while the economy was growing, was in 1998. (Shutterstock)

Another quarter-point interest-rate cut will be back on the table at the meeting of the US Federal Open Market Committee tomorrow in what would be the last such move for a while, according to economists and analysts.


A possible third rate cut at the two-day meeting on Tuesday and Wednesday will take the target range for the funds rate down to 1.5 per cent to 1.75 per cent.

In the UAE, and other dollar-pegged currency nations, the US rate cut will have an immediate spill over impact with the respective central banks inevitably cutting their rates to toe the Fed action, leading to easy credit and lower borrowing costs, thereby stimulating growth across a wide spectrum of the economy, including the real estate sector by making mortgage rates more attractive while easing the burden on existing borrowers.

The last time the Fed reduced rates three times, while the economy was growing, was in 1998. But after the third cut, it sent a strong signal that it was done.

The Fed cut rates for the first time since the Great Recession in late July, then followed that up in mid-September in a move to give the economy a little bit of extra padding to counter the risks on the horizon - uncertainty created by the US-China trade war and economic weakening in Asia and Europe.

The Fed lowers interest rates in order to stimulate economic growth. The rate cut applies to what banks charge each other for overnight lending, but influences a broad swath of consumer debt as well, analysts said.

"Lower financing costs can encourage borrowing and investing. However, when rates are too low, they can spur excessive growth and perhaps inflation. Inflation eats away at purchasing power and could undermine the sustainability of the desired economic expansion. On the other hand, when there is too much growth the Fed raises interest rates. Rate increases are used to slow inflation and return growth to more sustainable levels. Rates cannot get too high, because more expensive financing could lead the economy into a period of slow growth or even contraction," they explained.

Earlier this month, Fed Chairman Jerome Powell reiterated his pledge to do what it takes to keep the US economy afloat. And his number two, Vice Chairman Richard Clarida, in a recent speech pointed to global growth estimates that "continue to be marked down."

Data shows consumer confidence has shown signs of weakening, and while spending is still growing, it has slowed from a robust pace earlier this year.

Analysts expect Fed officials to say that this is the end of the "midcycle" adjustment that Powell alluded to in July.

In addition, the central bank could remove the language stating it will "act as appropriate to sustain the expansion" that has been in play since June.

According to a Goldman Sachs forecast, the Fed would likely cut interest rates, but in doing so will make a pair of adjustments aimed at signaling that the current easing cycle could be over.

"Strong signaling from Fed leadership indicates that the modest trade war de-escalation since September has not deterred them from completing a 75bp, 1990s-style 'mid-cycle adjustment," Goldman economist, Spencer Hill, said in a note to clients.

Matthew Luzzetti, chief US economist at Deutsche Bank Securities, said the picture is being complicated by the fact that risks to the outlook have flipped. Private sector job growth is decelerating and retail sales fell last month. But external risks, such as Brexit and the trade dispute with China, appear to be moderating. "Clearly the data have shifted the narrative for the market. The data in July and September were more mixed - it is now clear that a slowdown has taken hold."

In a London speech, James Bullard, the St. Louis Fed's president, displayed a forecast chart bathed in red, reflecting more downward revisions to the growth projections for the US, the euro area, Britain and China.

"The key risk is that this slowing may be sharper than anticipated," he told a conference of central bankers.

And minutes of the Fed's policy meeting last month said a "clearer picture" is emerging of how the trade war could drive the US into a downturn.

Analysts expect lost export markets, weak demand and uncertainty to lead to a drawn-out slump in business investment, threatening hiring, consumer spending and the wider economy.

That cautious sentiment is apparent in comments from many American businesses in the Fed's "beige book" report, and corporate earnings this month have confirmed it: Ford, Boeing, Caterpillar and 3M have all said revenues suffered from falling sales in China.

Futures markets overwhelmingly predict Powell will announce another cut in the benchmark borrowing rate on Wednesday in light of the darkening economic picture.

American consumers have been the star of the show this year, bearing the economy on their shoulders like Atlas while manufacturing, agriculture, business investment and exports have all withered.

The normally dovish Charles Evans of the Chicago Fed said this month that interest rate policy is already "in a good place" as it is.

And both Esther George of Kansas City and Eric Rosengren of Boston have resisted the last two rate cuts, warning that keeping rates low for too long comes at a cost, encouraging corporate America's dangerous debt binge, and threatening to make an eventual economic downturn even more destructive.

Meanwhile, with unemployment at half-century lows, consumers should be able to go on spending.

"My own outlook for the economy does not call for a monetary policy response," George said in a speech - but she noted that her view could change if consumer spending weakens further.

Economist Joel Naroff cautioned that the Fed might not be able to do anything to counteract Trump's trade war.

"The simple reality is that interest rates are not going to solve the problem that's causing the risks," he said, adding "if they implement a 25 per cent tariff on Chinese goods, zero per cent is not going to help. Interest rates do not solve political problems."

By Issac John 


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