Britannia Radio

Federal Reserve Slashes Interest Rate to Historic Low

By Neil Irwin and Howard Schneider
Washington Post Staff Writers
Tuesday, December 16, 2008; 3:42 PM

The Federal Reserve slashed a key short-term interest rate to effectively zero today, and signaled that it will "employ all available tools" to try to arrest the nation's economic freefall.

In a bold show of force that is without historical precedent, the Fed said it will cut its target for the federal funds rate, at which banks lend to one another, to a range of 0 percent to 0.25 percent. The target was previously 1 percent. The move cuts the rate to the lowest it has been in the 54 years that records go back, and stunned market watchers who expected a more modest cut.

In its unanimous decision, the Federal Open Market Committee, the Fed's policymaking arm, said it "anticipates that weak economic conditions are likely to warrant exceptionally low levels of the federal funds rate for some time." That essentially committed the central bank to not raising rates for the foreseeable future.

It also said it will keep looking for new ways to use its powers to further boost the economy, despite having already cut short-term interest rates as low as they can go.

"The Federal Reserve will continue to consider ways of using its balance sheet to further support credit markets and economic activity," the statement said.

The stock market had been up about 1.2 percent just before the announcement today, and it jumped sharply after the 2:15 p.m. action. It was up 4.1 percent, or 354 points on the Dow Jones industrial average, at 3:37 p.m.

In normal times, the lower rate would stimulate the economy by making it cheaper for Americans to borrow money through credit cards, to expand a small business, or to get an adjustable rate mortgage. In the current environment, with banks in crisis mode and many credit markets all but shut down, the rate cut's likely impact is less clear. Lenders have not passed recent Fed rate cuts through to customers the way they would in normal times.

Nonetheless, the move was the latest example of the Fed using all the tools at its disposal -- including some that had never been used and others that didn't even exist before -- to try to end the most profound economic crisis in at least a generation.

Indeed, with little room left to cut the federal funds rate, its normal economic policymaking tool, the Fed wanted to signal that it has other things it can do to stimulate growth as the recession deepens.

The central bank has already indicated it will buy $600 billion worth of mortgage-related securities next year, pumping money into the economy through unconventional means. The statement today suggested that it could undertake other such actions, known as "quantitative easing."

The statement directly raised one such possibility, saying that the Fed could buy long-term U.S. Treasury bonds to try to directly affect long-term rates. Another possibility would be for the Fed to expand its purchases of other kinds of debt, such as private mortgage-backed securities and commercial real estate loans.

Christine M. Cumming, a vice president of the Federal Reserve Bank of New York, voted in place of New York Fed President Timothy Geithner, who is to be named Barack Obama's Treasury Secretary; the Fed attempts to maintain independence from political authorities.

In an illustration of why inflation has subsided as a concern for the Fed, consumer prices fell at a record rate in November and housing starts plummeted to a level not seen in nearly half a century, stark signs of the weakness that has spread through the U.S. economy.

The consumer price index fell 1.7 percent in November, the Labor Department said, the second consecutive record-setting monthly drop. Led by the steep decline in energy prices, the report could even raise concerns about a general deflation -- a widespread and steady drop in prices that can undermine businesses and dissuade consumers from making any but the most necessary purchases in hopes of even lower prices in the future.

Excluding food and energy prices, which are particularly volatile, so-called core inflation was flat, at 0 percent.

There was continued weakness in the troubled housing sector as well. Housing starts fell in November to a seasonally adjusted annualized rate of 625,000 -- the lowest since the federal government began keeping records in 1960. That represents a nearly 19 percent drop from the month before, and a close to 50 percent drop from a year ago.

Building permits, a barometer of future activity, fell to a seasonally adjusted annualized rate of 616,000, 15.6 percent below October and a 48 percent decline over November a year ago.