Fed Cut Looms?

By Glenn Dyer | More Articles by Glenn Dyer

The smarties in the financial markets are already punting on a further cut in US interest rates at the end of the Fed's two day meeting early Thursday morning, our time.

And, why wouldn't they? The Fed funds futures market is now toying with the prospect of another 0.50%-0.75 point cut. That would follow last week's emergency 0.75% hack by the Fed and its chairman, Ben Bernanke.

The mood in the US is for a further relaxation, to help soften the landing of the US economy (which could have already landed in recession).

But consider the contrary case: the Fed has already slashed interest rates since last September, but the market has fallen sharply from the peaks of late last year.

That those peaks were reached says a lot about the blindness of investors of all sizes to the reality of what was happening in the US economy from the imploding housing industry and credit crunch.

The rate cuts so far have had no impact on consumer sentiment, on growth, on taking the pressure off the Wall Street financial sector, or on anything bar the US dollar, which remains weak. That has helped stimulate US exports, but America's external sector is a small proportion of its economy, unlike Japan or Germany for example.

But now US dollar returns below the euro 4% rate as a result of last week's cut by the Fed. Those cuts have hurt the dollar, piled pressure on the euro and will also lift US inflation at a time when it reached 16 a year high in December.

Another rate cut will push the dollar even lower, push up commodity prices and other currencies and lift American import prices.

The question could be not one of whether the US economy is in recession, but how deep if inflation is boosted by a falling dollar.

So the question becomes one of what is the more important for the Fed this week: no move after last week's cut and watch markets rattle themselves lower, of cut rates again and watch the US dollar fall, inflation rise as the price of oil and other commodities is boosted, and the prospects of an intense recession rise as a result: with all the consequences for world economic growth.

Wall Street and the US banking system have had enough help from interest rate cuts: it's time for the US and Europeans who caused much of the mess by supplying the money for the subprime rort to grow, to pay the cost.

The Fed will have to watch the US jobs figures on Friday for January. Another poor month like December and we will see a sell-off regardless of what happens at the Fed meeting.

That's why a Fed cut should wait. It has to wait and see what happens to the US economy in the next few months, even if it means markets might wilt.

The greater prospect from now on isn't another sustained plunge in the markets, but a 'grinding bear' market developing with daily fluctuations that go nowhere except slowly downwards: as we saw from late 1987 into the early 1990s.

Up till the close on Friday, the Dow was down 8% so far this month, the S&P 500 down 9.4% and the Nasdaq was off 12.3%..

While Wall Street will have a few important economic numbers to consider, the most important will be those jobs figures for January.

Reuters reckons a poll of economists produced a median forecast for January payroll growth of 63,000 jobs, and an unemployment rate of 5.0%.

December showed 18,000 new jobs (watch for revisions of that figure) and the jobless rate rising to 5.0%.

All this will be a warm-up for next week's Reserve Bank meeting on Tuesday and announcement that afternoon.

About Glenn Dyer

Glenn Dyer has been a finance journalist and TV producer for more than 40 years. He has worked at Maxwell Newton Publications, Queensland Newspapers, AAP, The Australian Financial Review, The Nine Network and Crikey.

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