David Kirkpatrick

December 16, 2008

Fed drifting into uncharted waters

Filed under: Business, Politics — Tags: , , , , , — David Kirkpatrick @ 11:46 am

I’ve already covered most of the issues individually looking at the ongoing financial crisis, but it is a bit daunting to see the litany listed in one place.

Whew.

From the link:

Having printed more than $1 trillion in new money since September, yet still failing to stop the economy from sinking, the Federal Reserve is expected to enter a new era of cheap money this week.

On Tuesday, policy makers are expected to lower their target for the overnight federal funds rate to 0.5 percent, a record low.

 

In itself, analysts said, the move will be anticlimactic. Because demand for interbank loans has been so low, the actual Fed rate has been close to zero for a month. The real change will be in how the Fed tries to fight the recession from here on.

After Tuesday, the Fed will have to resort to mostly untested tools for promoting growth, because it cannot reduce its benchmark interest rate below zero.

Its goal will be to drive down borrowing costs wherever credit markets remain paralyzed. But the approach is much more complicated than raising or lowering a single rate, and it could have unintended consequences.

Analysts say the current recession, which officially began a year ago, is all but certain to break the postwar record for duration, 16 months. But it could also set a record for depth.

The economy has already lost two million jobs this year. Analysts predict that unemployment, now 6.5 percent, could hit 9 percent by the end of next year.

The Fed must now turn to an approach called ”quantitative easing,” because it involves injecting money into the economy rather than aiming at an interest rate. The Fed has almost no experience with this approach.

”This is a whole new world,” said Richard Berner, chief economist at Morgan Stanley. ”You don’t have a whole lot of historical precedent for knowing how this is going to work and what the unintended consequences could be.”

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