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Fed Rate Cut: When Doing Something Without Bias [Crack] Is A Mistake

The Federal Open Market Committee met yesterday [1]. Good grief.

Before we get into that, take a look…

The WSJ’s very cool interpretation of each FOMC announcement is calledParsing The Fed [2].

>Incoming information suggests that economic growth is slowing, reflecting the intensification of the housing correction and some softening in business and consumer spending. Moreover, strains in financial markets have increased in recent weeks. Today’s action, combined with the policy actions taken earlier, should help promote moderate growth over time.

The Fed seemed to move away from inflation bias and left the door open for more cuts. It seems to me they were motivated to action by the chaos of the credit markets and its significant negative impact on housing, ergo the economy, yet they may have actually made the financial markets worse by not doing enough to allay investor concerns. These are the investors that buy the paper that banks issue that frees up more capital, to loosen the reigns on credit a bit. Of course, this is not the only issue and doesn’t deal with shoddy underwriting, unethical lending practices, etc.

Forget hoping for lower mortgage rates. Thats not the immediate problem. Before there is any hope that the mortgage/credit crisis situation can be fixed, the markets need some sense of stabilization before any type of progress can be made. They need it now.

The markets expected a larger than the typical 25 basis point drop and were severely disappointed.

The markets dropped like a stone [3] shortly after indicating the markets didn’t think the Fed went far enough. I was surprised at the intensity of the drop. This probably suggests that the credit markets are still far from stabilizing.

As of today, there is a 40% chance of another 25 basis point drop [4] and a 30% chance of a 50 basis point drop and a 10% chance of a 75 basis point drop at the January meeting.

Analogy of the year The lending crisis as Crack Epidemic [5] [City Blog/NYT]