Fed’s rate-cutting days may be over — for now

John W. Schoen Senior Producer • Profile • E-mail

After a year of aggressively slashing interest rates, Federal Reserve policymakers signaled that their rate-cutting days may soon be over — for now.

As expected, the Fed's Open Market Committee served up just a quarter-point cut Wednesday, leaving the benchmark for overnight loans between banks at just 2 percent — down from 5.25 percent when the rate slashing began last summer.

Some Fed watchers say we may see one more cut before the Fed pauses to see if its easy-money policy has the desired effect of boosting a sagging economy — without setting off another upward price spiral. But the comments attached to Wednesday's decision lead some to believe the Fed is headed for the sidelines.

"I think they're going to pause right now and that's the message we should be taking away," said former Fed Governor Susan Bies.

Fed Chairman Ben Bernanke and his colleagues may have little choice.

That's because soaring food and energy prices are beginning to spill over into the wider costs of other goods and services. And the quickest known antidote to higher inflation is to move interest rates back up again.

In explaining Wednesday's decision, the FOMC put less emphasis than in prior meetings on the risks of an economic downturn, and noted that " uncertainty about the inflation outlook remains high. It will be necessary to continue to monitor inflation developments carefully."

Those developments include a continued surge in oil and gasoline prices. Oil recently came within a dime of $120 a barrel to set a record. Pump prices are up 55 cents a gallon in the past 10 weeks. Credit Suisse economist Jonathan Basile estimates that each penny at the pump costs American consumers roughly $1 billion in spending power.

So even as $150 billion in rebate checks begin showing up in taxpayer accounts, about a third of that stimulus money will already have been spent to pay for higher fuel costs.

Rate cuts have been the Fed’s main weapon against a slowdown, but each move usually takes at least six months to begin having the desired effect. While the economy has been flashing recession signals in the latest monthly data, Wednesday's report on growth in the fourth quarter of last year showed that the national Gross Domestic Product inched head at just 0.6 percent. Though very weak, the data have yet to confirm the economy is in outright recession. If, as many economists currently believe, the economy emerges from a shallow decline by year-end, the Fed is concerned that continued rate-cutting could make inflation worse when things begin to pick up again.

So far, the latest series of rate cuts seem to have had only mixed success with a more immediate goal — calming financial markets.

As the debt bombs created by lax mortgage lending standards began exploding last year —  blowing big holes in the value of hedge funds and the balance sheets of financial services companies — the credit markets all but shut down. Nine months later, confidence is just beginning to return on the belief that the worst of the losses have already been reported.

The stock market, encouraged by a recent round of relatively strong corporate profits, has been moving higher in the past six weeks. Investors are betting that while the economy likely is in a recession it will begin expanding again by the end of the year. Many of the companies recently reporting strong quarterly results, especially those with overseas operations that have benefited from a weaker dollar, seem to share that view.

But the multitrillion-dollar capital market that supplies the essential raw material for the world's economy remains badly damaged. It may be that further cuts in interest rates won’t help much.

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