Odds Favor Another Interest-Rate Cut

By John S. McClenahen Even before Chairman Alan Greenspan and his colleagues on the Federal Open Market Committee (FOMC) decided May 15 to cut U.S. short-term interest rates for the fifth time this year, some economists, like UBS Warburg's Maury Harris, were predicting another reduction at -- or before -- the FOMC meeting on June 26 and 27. In announcing its latest 50-basis-point reductions in the federal funds rate and the discount rate, the FOMC did not discourage such predictions, saying "the risks are weighted mainly toward conditions that may generate economic weakness in the foreseeable future." The influential federal funds interest rate now stands at 4%, and the discount rate, the interest the Federal Reserve charges on borrowings by member banks, is now at 3.5%. A year ago, the federal funds rate was 6.5%. Bruce Steinberg, Merrill Lynch & Co.'s chief economist, suggests the days of both 50-basis-point rate cuts and between-scheduled-meeting FOMC moves "are probably over." Nevertheless, New York-based Steinberg expects the federal funds rate to be 3.5% by late August, a level last seen in 1994. "On the other hand, if payroll employment tumbles again, the Fed funds rate could be at 3.5% by midyear and move lower from there," says Steinberg. The main impact of the FOMC's latest cuts "is that both business and household balance sheets will improve over the next few months, due to lower debt-service costs," believes Jerry J. Jasinowski, president of the National Assn. of Manufacturers, Washington. "Meanwhile, the general improvement in cash flow and liquidity will likely lead to increases in consumer and business spending, and the cumulative impact of recent Fed interest-rate cuts will likely bring about roughly a two-percentage-point increase in GDP," says Jasinowski. For manufacturing generally, however, the economic data still do not show inventories down to the level at which new orders are resulting in new production. And that may not happen until well into the second half of the year. "The erosion in current and prospective profitability, in combination with considerable uncertainty about the business outlook, seems likely to hold down capital spending going forward," say Greenspan and his colleagues. "This potential restraint, together with the possible effects of earlier reductions in equity wealth on consumption and the risk of slower growth abroad, continues to weigh on the [U.S.] economy."

Hide comments

Comments

  • Allowed HTML tags: <em> <strong> <blockquote> <br> <p>

Plain text

  • No HTML tags allowed.
  • Web page addresses and e-mail addresses turn into links automatically.
  • Lines and paragraphs break automatically.
Publish