Analysts said that the financial market turmoil stemming from the collapse of Wall Street giant Lehman Brothers had boosted odds for a cut in interest rates by the US Federal Reserve yesterday.
The failure of weekend talks to save Lehman has sparked worries about a financial tsunami, prompting the Fed to open up new liquidity to avert a knock-on effect.
Some economists said the Fed also needed to cut rates to keep credit flowing, even though last week most analysts had been expecting the policy meeting yesterday to hold the federal funds rate at 2 percent, below the level of inflation. The Fed’s rate decision was expected by 1815 GMT yesterday.
“Markets are now expecting the Fed to cut rates 25 basis points tomorrow [yesterday], although there was no real macroeconomic reason for them to do so prior to last night,” said Sherry Cooper, chief economist at BMO Capital Markets.
“One thing is certain, the Fed will do whatever it takes to calm financial markets. Inflation is no longer a major concern with oil and other commodity prices falling,” she said.
The futures market was pricing in a 68 percent chance of a quarter-point cut in rates, up from a 9.0 percent chance last week.
“The sudden bankruptcy of Lehman Brothers over the weekend has led to another dangerous escalation of the crisis in the US financial markets — a crisis that has been seriously harming the performance of the economy for over a year now,” economist Brian Bethune at Global Insight said.
“The economy is very weak, the recession wolves are pounding down the door and the financial system faces new deflationary threats from the bankruptcy of Lehman Brothers. This is an emergency situation and an aggressive response from the Fed is needed,” he said.
But Barry Ritholtz at Ritholtz Research & Analytics said a rate cut would be a mistake, noting that earlier rate cuts have failed to filter their way into consumer or business lending because of tight credit.
“We have survived the initial impact caused by the collapse of Lehman Brothers,” he said. “The Fed would be well served, with rates now at 2 percent, to keep some powder dry for the latter innings of this crisis.”
Cary Leahey, senior US economist at Decision Economics, said he believed the Fed should fight the urge to respond to market pressure for a rate cut.
He said a rate cut might be construed as a sign of panic.
“It might send a signal that they [Fed members] know something we don’t know” about the financial crisis, Leahey said.
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