Is Another Fed Cut Inevitable?
Written by OnlineLoan on 05:56Is Another Fed Cut Inevitable?
By: Dane Smith
As many Americans continue to default on their mortgages at record levels, other markets throughout the world are becoming extremely volatile. Most of the defaults were exacerbated by the Federal Reserve's aggressive interest rate hikes over the past two years, which were done in order to stem inflation and keep the dollar overvalued. The devaluation of the dollar in recent months has positively resulted in the elimination of the incredible US deficit, but at a hefty cost to regular consumers and especially to lower-income homeowners, as a slower economy causes many to become more susceptible to defaulting further. This causes the existing problems to cause more damage than they already are, and makes it more likely that recovery will take much longer.
One of the only methods the Federal Reserve can use to increase spending and thus help to get the economy back on its feet is to cut the interest rates, as they have done over the past two months, from 5.25 to 4.5%. This is a huge rate cut all at once, which is practically unheard of in the history of the Fed. However, many analysts have predicted that they may cut rates yet further, as news of depressed consumer confidence and spending hit at the same time as more and more major companies are reporting quarterly losses in the billions, most of which is tied to the subprime mortgage crisis. This is a veritable one-two punch to the average investor, who seems to be responding by panicking, thus placing the market in its slow downward spiral that we see today.
One good analogy comes from the climate crisis in a term that has recently entered the public arena: negative feedback. If the economy is like the northern polar ice cap, the subprime mortgages are like dark sea water, with all remaining assets and investments represented by the stable pack ice. As the water soaks up energy from the sun, it warms the sea ice around it faster and faster, thus melting ice exponentially more quickly. As more investors become wary of the market, it becomes more difficult for banks to lend each other money, and the stable ice of the market breaks apart. The Fed cut would be like cooling the entire Artic ocean two degrees, thus economically encouraging investment without specifically addressing the subprime mortgage problems.
I think the Federal Reserve has no choice but to further cut interest rates because they are basically the only institution with any control over the US economy. In order to buoy the faltering spending and concurrent slowdown, they are practically obligated to do something. However, each rate cut is a double-edged sword: by cutting interest rates everywhere, they make inflation a bigger and bigger threat, and, more importantly, admit that leaving the situation as is will be worse in the long run. This in turn will probably make more investors more panicked, because the subprime mortage threat will be seen as an even graver menace. With these problems in mind, they will do what they think is right. But without a serious upswing, they may have no choice.
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