Issue of the week

The markets got their wish this week, said Scott Lanman and Craig Torres in Bloomberg.com. Buffeted by a mortgage crisis and signs of economic slowdown, the Federal Reserve cut its benchmark interest rate to 4.75 percent, a half-percentage-point drop. The reduction in the so-called fed funds rate, which banks charge each other for one-day loans, was accompanied by a half-percentage-point cut in the discount rate, which the Fed itself charges banks for overnight money, to 5.25 percent. Both cuts came amid evidence that “the deepening recession in housing is taking a toll on the broader economy.” The August employment report from the Labor Department, showing an unexpected loss of 4,000 jobs, added to the pressure on Fed Chairman Ben Bernanke and the other members of the Fed’s Open Market Committee, which meets eight times a year to set interest rate policy. Wall Street cheered the cut, which sparked a 336-point rise in the Dow Jones industrial average, to 13,739.

The cheering won’t last long, said Kevin G. Hall in the Baltimore Sun. Cutting the fed funds rate to jump-start this economy is “akin to offering a Band-Aid to stop a stomachache.” It doesn’t do much good to push money into the system when “lenders are afraid to lend, and investors afraid to invest.” They’re afraid because they don’t know which borrowers are creditworthy, and they won’t know until those borrowers disclose their holdings of subprime mortgages and other toxic debt. Cutting the fed funds rate by half a point is certainly a bold move, and it’s sure to generate a short-term rally. But it won’t do anything to clear up the uncertainties bedeviling the markets.

In fact, the Fed’s cut “may end up raising as many questions as it answers,” said Madlen Read in the Associated Press. Some analysts already worry that a rate cut will stimulate inflation without doing much to get the economy moving again. Lower rates, they point out, make U.S. bonds less attractive to foreign investors and depress the value of the dollar against other currencies. A lower dollar, in turn, translates into higher prices for imported goods, while less foreign investment means less money available for businesses to expand and add jobs. So even though investors got the cut they were clamoring for, “the stock market could be in for a wild ride” as inflation worries kick in.

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This is no time to fret about inflation, said Investor’s Business Daily in an editorial. “The economy has started to look shaky,” and investors sense a looming recession. Bernanke and his Fed colleagues took note of the jobs data and other disturbing signs of the times, including home builder Hovnanian’s desperate attempt last week to clear its inventory of luxury properties by offering six-figure discounts. And the central bank took the only sensible course, making “a bold strike against recession.” In years to come, we’ll thank it for the foresight.