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Wednesday, December 12, 2007

Fed Lowers Interest Rates Again - Investors Upset

The Federal Reserve met yesterday and lowered its benchmark interest rate again, in hopes of alleviating some of the economic pain caused by the current mortgage crisis and slow housing market.  The federal funds rate was lowered by a quarter point (to 4.25%), and the discount rate was also cut by a quarter point (to 4.75%).  The discount rate is the cost of direct loans from the central bank.  The federal funds rate is now at its lowest level since January 2006.

But apparently the rate cut was not enough to satisfy some Wall Street investors.  Since most stock market investors had hoped for a .50% rate cut, many were disappointed by the .25% rate cut.  As a result, the Dow Jones dropped about 300 points after the rate cut was announced.  Today however, investors seem to have gotten over it since the Dow, NASDAQ and S&P500 are all up quite a bit (so far).

Perhaps investors are comforted by the fact that the Fed also indicated a willingness to make additional future rate cuts if necessary.  I think Bernanke is just being cautious after seeing his predecessor, Alan Greenspan, criticized for dropping rates too much, too fast.  Besides, the most immediate positive effect of a rate cut is not lower mortgage rates, it's the boost it gives to consumer confidence.  Therefore, maybe making smaller rate cuts more frequently is a better strategy than making bigger rate cuts all at once.  Only time will tell!

Visit Shannon Hubbard's Home Page     Written By: Shannon Hubbard

Great American Realty, Inc.

Cell: (480) 695-6672
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Related articles:
"Subprime Mortgage Interest Rate Freeze..." (Dec 2007)
"Sub-Prime Mortgage Crisis Causes Fed to Lower Discount Rate" (Aug 2007)
"Homebuyers & Investors Hope for Interest Rate Decrease"  (Aug 2007)
"Fed Says No Increase in Interest Rates Today"  (Oct 2006)

Posted by Shannon Hubbard, AZ Realtor & Computer Guru on December 12, 2007 | Permalink


I have seen and read so many articles about the rate freeze, but this is the first time that anybody has said anything about Wall Street, and the investors. In your opinion what do you think that the government should do to try and turn things around for the housing market as well as the stock market?

Posted by: Rick Marnon, Howell | Dec 12, 2007 2:48:36 PM

Hi Rick,

Thanks for your comment. I don't really know the answer to 'what the government should do to try and turn things around for the housing market as well as the stock market'. However, there are a few possible answers to this problem that I definitely disagree with!

To start with, the rate freeze is different than, but related to the recent .25% rate cut. The rate freeze is a voluntary program President Bush negotiated with (much of) the mortgage industry where mortgage rates on certain subprime adjustable rate loans will be frozen for 5 years. I have no problem with this since it is voluntary (although I would definitely oppose it if it were mandatory because I generally disagree with government interference in private business). I do worry that if all other factors don't line up just right (i.e. if the broader economy slows and/or housing/mortgage industries take longer than expected to recover), then this rate freeze might only prolong the problem for 5 years rather than actually solving anything. Since there's no perfect solution to the problem, and no single solution, I think this plan is a good start though.

But I disagree with the FHA Secure program which effectively transforms some of these risky subprime loans into government insured loans - putting the taxpayers, not the lenders, at risk if and when these loans do foreclose. Again, I think this is a step that will prolong the agony and will then unfairly force the taxpayers to absorb the cost, rather than the lenders and borrowers who created the mess. However, I also realize that while FHA Secure might not be a great solution, something has to be done or the entire economy (and all taxpayers) will definitely suffer.

I agree that the recent rate cut was necessary, and I'm actually glad to see it was only a .25% cut rather than the .50% cut the investors wanted. Slow and steady wins the race right! Plus, that leaves room for another .25% cut in the near future. However, with the inflation numbers that came out today, the Fed may be hesitant to continue lowering interest rates. We'll see.

Both the recent rate cut and the rate freeze program are intended to help the struggling mortgage & housing industries, and appease Wall Street enough to keep our economy out of a recession. Wall Street investors don't like bad economic news or uncertainty. Right now investors are dealing with both on an almost daily basis and consequently, the market is volatile from day to day. And it's not just the housing and mortgage sectors that are scaring investors - it's the entire lending atmosphere. If businesses can't borrow money, they can't do business, and productivity (aka earnings) are slowed. That's what Wall Street is really concerned about, more so than just the housing/mortage industries. Wall Street will be happy when credit fears are over. So basically, investors will be happy when the government gets results. Coincidently, a secure lending industry will also help stabilize the housing market. Without the credit fears, the slow housing market is not nearly as big a problem and will likely correct itself in a short time.

On the brighter side, both Arizona and the US as a whole have virtually full employment. AZ has a great job market and great climate. And with many baby boomers choosing Arizona for their retirement or second home destinations, Arizona's future growth is very optimistic. That is, as long as the politicians don't mess it all up...!

Posted by: Shannon Hubbard | Dec 13, 2007 8:41:05 PM

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