Hopes Still High for Inter-Meeting Fed Rate Cut

CHICAGO -- Hopes for the Federal Reserve to make a rare inter-meeting interest rate remain high as an ugly global debt crisis continues to play out.

For a sixth straight day financial markets are reeling from a widespread liquidity squeeze — which has triggered heavy losses in stock markets around the world and threatens to drag down economic growth.

Market pundits have called, even screamed, for days now for the Fed to lower overnight lending rates, and some feel like things are finally at the breaking point after another debacle on Wall Street.

"If the market closes ugly today and closes ugly tomorrow, the Fed has no choice but to step in. ... If they cut, it's going to be a least 50 basis points," said economist Jeff Thredgold of Thredgold Economic Associates in Clearfield, Utah, which advises regional banks.

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Short-term interest rate futures, which measure market expectations on Fed rate policy, have shot up like a rocket to reflect speculation about an emergency rate cut this month.

Still, prices have been distorted by large amounts of liquidity pumped in by the Fed over the past week, and skepticism about a rate cut between regular meetings still abounds.

"What the Fed is trying to do is everything in their arsenal other than providing an official Fed rate cut," said Kevin Flanagan, fixed income strategist for global wealth management with Morgan Stanley in Purchase, New York.

Even barring an inter-meeting move, the market suggests at least a 25 basis-point-rate cut is on tap at the Sept. 18 Fed policy meeting, with a 50-basis-point cut probable at that time.

BAD TIMING

The Fed has made just four emergency rate cuts since 1994: in October 1998 and in January, April and September of 2001.

The April 2001 cut came in the middle of an eight-week gap between one Federal Open Market Committee meeting and the next, at a time the U.S. economy seemed to be deteriorating rapidly.

"This can be an eternity when the economy is losing steam," said Ed McKelvey, economist at Goldman Sachs in New York.

The latest phase of the financial market meltdown started on Aug. 9, just two days after the August FOMC meeting.

With the next official decision on interest rates still more than five weeks away, some Fed watchers reason that the central bank might have no choice but to step in.

THE REAL WORLD

Policy-makers are thought to be determined to hold the line on interest rates absent evidence of damage to the "real economy," or a sharp downward tug on economic growth.

Two reports on Thursday gave some evidence of real-world problems.

The Philadelphia Fed's survey of factory conditions in the U.S. Mid-Atlantic region dropped to 0.0 in August from 9.2 in July, far lower than forecast.

Earlier, housing starts for July fell by a greater-than-expected 6.1 percent to the lowest since January 1997. Building permits dropped to their lowest rate since October 1996.

"There is no conceivable way the economy will escape the housing slowdown completely at this point," said Adam York, economic analyst at Wachovia Economics Group in Charlotte, North Carolina.

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