Why The Rate Cut Was Important To Main Street

The Federal Reserve lowered the Fed Funds rate on Wednesday to 1%. The move was widely expected but it's still important for a few reasons.
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The Federal Reserve lowered the Fed Funds rate on Wednesday to 1%. The move was widely expected but it's still important for a few reasons. First, Main Street was expecting it and now is not the time to disappoint people after they have had the shock of opening their 401-K statements. Lowering the short end of what we call the yield curve allows banks to borrow at a cheaper rate and that will help with their level of profitability. Also, a lot of household and business debts are tied to the Fed Funds rate and lowering the rate lowers the interest charges consumers have to pay. Many mortgages are tied to the Libor rate which is why we have been so focused on it, but the lower Fed Funds rate still helps. On Libor for a second, it has been trending down nicely and John Ryding of RDQ Economics expects the rate to go to 2.25% early next year (against 3.41% now.)

What we now want/need to see is the European Central Bank and the Bank of England lower their rates when they meet (separately) on November 6. The current ECB rate is 3.75% and the BOE rate is even higher is at 4.25%. It is almost as if they are in some stage of denial with rates at that level and the economies of the world faltering like they are. There are more economists rushing to lower their estimates of Q4 GDP to a -4% or so. Q3 is reported Thursday and the guess is for a slightly negative -.5%. From there to a negative 4% in the U.S will recoil around the world and the ECB and the BOE are behind the curve.

What will help in 2009 is the fall in the price of oil, presuming it stays down. Every .01 cent decline in the price of gasoline saves the U.S consumer $3.4 million a day. That would be $447 million a year. That will come at a good time since unemployment will rise and the inevitable rise in the jobless rate will be at least partially blunted. Oil averaged $72 a barrel in 2007 and is probably averaging around $105 year to date, so the biggest impact will be felt next year.

The depressing truth comes from J.P. Morgan's investment group that figures the trailing ten year return on the S&P 500 is negative for the first time since 1937. Ouch! But then again, maybe this is an opportunity.

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