- The Washington Times - Thursday, January 4, 2001

The Federal Reserve, in a major surprise, slashed interest rates by a half point yesterday after reports pointed to recession conditions in manufacturing and a rapidly deteriorating outlook for consumers.
Fed Chairman Alan Greenspan ordered the rate cut after it was approved in an emergency telephone conference with members of the Fed's rate-setting committee. In a statement afterward, they voiced concern about "weakening sales and production … lower consumer confidence, tight conditions in some segments of financial markets and high energy prices sapping household and business purchasing power."
The stock market skyrocketed after the unexpected announcement, setting off the busiest day of trading in Wall Street history. The beleaguered Nasdaq Composite Index, which Tuesday was down more than 50 percent from its March high, scored a record gain of 14.2 percent, or 325 points, to 2,617.
The Dow Jones Industrial Average leaped 300 points to 10,946 on a day that saw more than 5 billion shares trade hands for the first time. Stocks gave their worst performance in decades last year because of worries about the weaker outlook for businesses and the economy.
J.P. Morgan Chase, Morgan Guaranty Trust and other major banks moved quickly to pass the Fed rate cuts on to consumers and businesses through a half-point cut in the prime lending rate to 9 percent.
Economists said the Fed's dramatic move may have been prompted by a report Tuesday that showed activity at the nation's manufacturing companies at the lowest levels since the last recession in 1991. To ensure that the downturn does not spread to the rest of the economy, they said, the Fed committee may cut rates again at its Jan. 31 meeting.
"There are risks the economy will fall into recession over the next couple of months, particularly the energy shock that consumers are facing" when they open December heating bills that will be on average 50 percent higher than last year, said Mark Vitner, economist with First Union National Bank.
Those heating bills will increase this month and next, traditionally the coldest winter months, he said. The combination of the exorbitant heating bills and frigid weather will induce consumers to stay home and shop less possibly tripping the economy into a downturn, he said.
"The Fed doesn't want to give off a sense of panic, but the overriding goal is to make sure the economy doesn't fall into recession," he said, noting that economic conditions are similar to those in early 1996 and 1989, when the economy was headed into major slowdowns.
Consumer spending held up pretty well over the Christmas holidays, but a big drop in consumer confidence in the last month suggests that consumers are vulnerable and may be spooked by a recent proliferation of layoff announcements and bankruptcies at strapped corporations, Mr. Vitner said.
The large rate cut and the unusual move between Fed meetings the first since October 1998, when the Fed cut rates to prevent the Asian financial crisis from engulfing the U.S. economy signal the central bank's sense of urgency and readiness to do what it takes to prevent recession, economists said.
The timing of the move also may be intended to pave the way for a smooth transition and relationship with the incoming administration of President-elect George W. Bush, as well as cushion the Fed from criticism by political and business leaders that it is falling behind the curve, they said.
Mr. Bush, General Electric Chairman Jack Welch and other business leaders attending a Bush economic summit yesterday in Austin, Texas, praised the Fed move.
But Mr. Vitner said they might have done otherwise and questioned the Fed if it hadn't taken action. Critics who say the Fed moved too late are plentiful on Wall Street.
Several analysts disagreed with speculation that the cut was designed to head off a Bush tax cut. "That seems to me to be a little too clever by half," said economist Robert Dederick of the Northern Trust Co.
"This is a Fed that does not want to see even a risk of recession, let alone a recession," he said. "The classical problem of inflation is not there, so what's there to fight with higher rates?" he said.
The Fed cut to 6 percent its federal funds rate, the interest that banks charge each other, and its symbolic discount rate on Fed loans to banks to 5.75 percent.
Sung Won Sohn, chief economist with Wells Fargo in Minneapolis, said the positive reaction to the Fed's surprise move in financial markets yesterday suggests the Fed has a good chance of preventing a recession. But it needs to keep reassuring investors and consumers that more rates cuts will come if needed, he said.
"That is important because in the short run the Fed's got to work through confidence in the economy," he said, calculating that about one-fifth of consumer spending last year was spurred by wealth gains in the stock market.
The Fed's intention is not to bail out the Nasdaq, which fell 39 percent last year, but to bolster consumer and business confidence by shoring up the markets, he said.
Mr. Greenspan showed his usual good political sense in cutting rates yesterday, Mr. Sohn added.
"It's probably no secret that the new administration would like to see lower interest rates, and there is more than ample justification for cutting rates. It's a win-win situation," he said.


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