Fri, Jan 09, 2009 - Page 12 News List

Aggressive rate cuts risky, pundits warn

By Joyce Huang  /  STAFF REPORTER

Economists yesterday forecast that interest rates would further trend down to 1 percent as early as March, but warned of a “liquidity trap” if the central bank continued its aggressive rate cuts.

“Cutting the rate to lower levels may backfire, forcing people to hold more cash,” Chen Miao (陳淼), a researcher at Taiwan Institute of Economic Research (台經院), said by telephone yesterday.

Keynesian economics warns that lowering interest rates to close to or equal to zero to avoid a recession may boost liquidity but not necessarily stimulate the economy. Borrowers may choose to keep assets in short-term cash bank accounts rather than making long-term investments, creating a liquidity trap. This may make a recession even more severe and can contribute to deflation.

Chen said the main problems facing the local economy were consumers drastically cutting back on spending, companies hesitating to take out loans for investment and banks refusing to extend credit.

A poll released by Global Views Survey Research Center (遠見民調) yesterday found that as many as 62 percent of respondents said they would spend the NT$3,600 vouchers that the government would start distributing to qualified individuals next Sunday on daily necessities and would refrain from over-spending, dealing a blow to the government’s goal of boosting consumption.

Wang Lee-rong (王儷容), director of the Chung-Hua Institution for Economic Research’s (中華經濟研究院) economic forecast center, also cast doubt on the wisdom of further cutting rates as the central bank had already lowered rates by 212.5 basis points in four months.

“The rate cut policy didn’t seem to help a lot,” she said.

Rate cuts have usually been followed by a rise in the stock market. However, the central bank’s rate cut on Wednesday failed to assure investors, who, spooked by the slump in the nation’s exports last month, drove the TAIEX down 5.3 percent to close at 4,535.79 points yesterday.

Wang said she did not foresee interest rates dropping below 1 percent as other pundits had suggested. She expects another 0.5 percentage-point cut in March amid worsening exports in the first quarter.

“An interest rate lower than 1 percent will cause panic — as if it’s the end of the world,” she said.

Agreeing that the nation’s rate will go down to 1 percent,

Arjuna Mahendran, head of HSBC private banking’s investment strategy in Asia, said interest rates could go down to 1 percent, but whether the central bank should cut rates even more aggressively would depend on the nation’s inflation outlook.

The banker said the consumer price index could fall into negative territory this year, which will leave the central bank no choice but to tackle deflation and “cut more to below 1 percent.” He did not give a timeframe for the expected rate cut.

Standard Chartered Bank said in a report yesterday that the central bank could slash its benchmark rate by another 0.25 percentage points in March and again in June and maintain it at 1 percent through the end of the year.

UBS AG predicted in an investment note yesterday that central bank would cut rates by 0.5 percentage points in March and another quarter point in June and leave it intact at 0.75 for the rest of the year.

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