Wednesday, November 18, 1998

Federal Reserve cuts rates, signals wait before next one

By DAVE SKIDMORE Associated Press

WASHINGTON - The Federal Reserve moved to protect the economy Tuesday by cutting interest rates for the third time in seven weeks but signaled to Wall Street not to expect any more reductions soon.

After meeting privately, Federal Reserve Chairman Alan Greenspan and his colleagues announced they had cut two benchmark interest rates, each by a quarter percentage point. The rate charged among banks on overnight loans fell to 4.75 percent and the rate on the Fed's own loans fell to 4.5 percent.

Major banks responded by cutting their prime lending rates to 7.75 percent. That will translate into cheaper monthly payments on a variety of consumer and business loans, including credit-card balances and auto loans.

Wall Street reacted favorably at first, but then read the fine print. The Dow Jones industrial average shot up 75 points from Monday's close but then finished down 25 points at 8,986.

In its statement, the Fed said, with the latest cut, "financial conditions can reasonably be expected to be consistent with fostering sustained economic expansion while keeping inflationary pressures subdued."

Economists say that virtually rules out another rate cut at the Fed's next scheduled meeting on Dec. 22, unless there's unforeseen deterioration in the economy or financial markets. The next chance would come after policy-makers meet in early February.

"I would think the Federal Reserve would be more prudent now and wait and see how the economy develops in the United States and other countries," said economist Norman Robertson of Smithfield Trust Co. in Pittsburgh. "But I think the Fed exercised good judgment today, providing some degree of insurance against a more severe economic decline in the coming year."

Wall Street traders had been anticipating Tuesday's cut, but with considerably less certainty than just a month ago, before the stock market's strong rebound. The Dow went above 9,000 on Monday for the first time since July.

The Fed acknowledged "financial markets have settled down materially since mid-October" but said "unusual strains remain."

In a way, the market's earlier anticipation of a cut acted as a self-fulfilling prophecy, analysts said.

"They kind of got co-opted," said economist Martin Regalia of the U.S. Chamber of Commerce. "If Greenspan and company had not gone along with this cut, there would have been a very nasty reaction in financial markets."

Tuesday's cut brought the federal funds rate to its lowest level in four years. It was the third cut since Sept. 29, when the Fed cut rates for the first time in three years.

That first cut failed to calm Wall Street, and banks began pulling back from business lending. So in a surprise move, the Fed cut rates again Oct. 15. That proved far more effective.

Two factors argued in support of the third cut: the tameness of inflation - too many rate cuts could stimulate inflation pressures - and the nation's sharply increasing trade deficit.

The Labor Department said Tuesday that inflation rose a modest 0.2 percent in October. For the first 10 months of the year, inflation is running at a mild 1.6 percent annual rate.

Meanwhile, economists are forecasting the trade deficit - $136 billion last year - will approach $250 billion this year and $300 billion next year.

That's forcing factories to lay off workers. Since March, their payrolls are down by 200,000 jobs and the nation's unemployment rate has crept up to 4.6 percent from a 28-year low of 4.3 percent in the spring.

So far, strong consumer spending has kept the U.S. economy going at a fairly brisk rate, but Americans have been saving next to nothing to sustain that pace. Economic growth will lapse from about 3.6 percent this year to 2.1 percent next year, economists predict. Most think the economy will avoid a recession.