The Federal Reserve declined to cut interest rates this afternoon, expressing confidence that the economy will continue to grow despite a widening credit crisis on Wall Street.
Credit markets this morning froze up as banks grew reluctant to lend each other money in the wake of the monumental Lehman Brothers bankruptcy and a possible collapse of the American International Group insurance giant. Interest rates on bank loans were surging in London and New York in a sign that loan markets have grown extremely stressed.
The Fed in a statement noted that “strains in financial markets have increased significantly and labor markets have weakened further” and that “tight credit conditions and the ongoing housing contraction” will likely slow growth in coming months.
But the Fed said the substantial cuts in interest rates it provided earlier this year should suffice to keep the economy growing at a moderate rate. It said it still has “significant concern” about inflation worsening, despite a rare energy-induced decline in the Consumer Price Index reported by the Labor Department this morning.
Earlier today, the Fed sought to soothe stressed markets by joining the European Central Bank in a massive operation pumping $140 billion of cash into the bank funding system.
Whether the Fed’s moves to date will be enough to calm the crisis on Wall Street may depend on whether AIG is able to weather its own funding crisis and stay in business in coming days.
The insurance giant has taken the unprecedented step of asking the Fed for a temporary loan to help it meet funding commitments while it raises cash by selling some of its $1 trillion of business assets.
Many analysts believe the insurer, unlike Lehman, is too big to fail without causing substantial damage to the critical credit markets that finance the day to day needs for businesses and consumers.
Sources said the Fed is reviewing the AIG’s request but as of this afternoon had not taken any action on it. The Treasury Department since this weekend has taken a hard line against providing any further bailouts to Wall Street.