Federal Reserve & Interest Rates

Jean-Claude Trichet, president of the European Central Bank (ECB) gave a press conference this morning after deciding not to cut the key interest rates because of inflation concerns.

In his statement to the press, Trichet stated,

The latest information has confirmed the existence of strong short-term upward pressure on inflation. In fact, we are experiencing a rather protracted period of temporarily high annual rates of inflation, resulting mainly from increases in energy and food prices. The latest information also clearly confirms our assessment of prevailing upside risks to price stability over the medium term, in a context of continuing very vigorous money and credit growth. The economic fundamentals of the euro area are sound.

Trichet seems confident in the real GDP growth of the Euro-economy, and feels strongly that maintaining price stability should remain the main focus.  He believes that while there is uncertainty and turmoil in the financial markets, this approach will help maintain the European economy.  He also noted that there is an unusually high level of economic uncertainty.

Some experts say that the ECB could afford at least a small rate cut.  They have been incredibly reluctant to do so.  Over the last twelve months, euro consumer prices have gone up 3.5%.  The euro is currently trading at 1.5825 dollars.

The ECB voted to keep the interest rates high, rather than take the approach of the United States Federal Reserve and continuously slash rates.

There is a small chance of a global recession occurring at this point.  Monetary policy makers all over the world are now under pressure to make the right moves to help their regional economies.  It is no longer a question of whether or not the United States will pull through “tough times,” but a question of whether or not a number of nations will be able to avoid recession.

It has been over six months since the Federal Open Market Committee began to cut rates to help our struggling economy.  Record job losses are continuing to be recorded month after month.  The housing market is continuing on a downward spiral.  There has been a major slow down in consumer spending, and in the growth of the Gross Domestic Product (GDP).  Even so, officials just won’t admit that our country is in a recession.

What more evidence do they need?  Chances are, the economy will get better before they actually admit that we “were in” a recession.  After seven months of a slowing economy, I think that it is safe to say that we are in a recession.  Officials are calling it “tough times,” but I am going to go out on a limb and call it a recession.  This is why I think we are in a recession now:

The financial markets are continuing to struggle, even though rates have been cut by nearly 3%.

So far this year, over 200,000 jobs have been cut.

The GDP moved at an incredibly slow pace of .6% for that last quarter of 2007.

The Consumer Price Index (CPI) is up by .3%.  Inflation continues to make gas and food more expensive.

Consumer spending dropped even through the holiday season, and has not recovered.

Businesses are cutting costs in whatever way possible, and are reluctant to invest in equipment, employees, and new ventures.

The trade value of the dollar has hit record lows against the Euro and the British pound, and hasn’t rebounded for months.

The Federal Reserve is pumping billions of dollars into the system, just to keep the credit market from totally collapsing.

The experts may not be able to see it, or admit it, but many Americans know that we are in a recession.  Just ask the millions that are in foreclosure, or are in danger of it.  Just ask the 7.8 million people who are unemployed right now.  Ask the struggling low income families that notice that food is more expensive to buy.  They will probably not hesitate to tell you that we are in a recession.

I don’t doubt that we will continue to see interest rate cuts for much of this year.  Bernanke expects the economy to pull through by the very end of the year, but the near terms are not looking good to even him.

I hope that we do pull through soon.

The Federal Reserve has reduced the interest rates to the lowest point in three years, with yesterday’s cut being 75-basis points. What does this mean for consumers? The rates only directly affect the amounts that banks have to pay to borrow on a short term basis. As a result, the banks may eventually choose to reduce the interest rates that they charge borrowers. The downside to lower interest rates, however, is that interest bearing accounts consumers are using to save money will earn less.

Borrowers with short-term adjustable rate loans and credit cards will probably begin to see a reduction in monthly payments and interest charges. Those that have good credit will benefit the most from this. Short-term loans like personal loans, auto loans, and equity loans, may actually see a visible difference in their monthly billing statements. Those with adjustable rate mortgages may also see lower payment requirements. Borrowers with poor credit, high revolving balances, and habits of defaulting or only paying the minimum, may not see the benefit of the rate cuts.

Those trying to save money through interest bearing accounts may be a bit disappointed. Money market accounts and certificates of deposit (CDs) accounts will not be yielding as much as they were even a couple of months ago. Savings accounts may not offer the same interest earning appeal as they did before. There are still some internet banks that offer higher rates that could benefit those who are looking for a higher interest yield on their savings. Even though there is a higher return on many internet banks, rates are lower for those accounts than they once were.

The other downside for consumers is the risk of inflation. When rates are lower, it leaves room for pricing increases. Prices may begin to rise again, even though they held steady on average last month. Addition cuts may trigger further rises in costs. Meanwhile, savings accounts will be bearing less, as I mentioned.

Overall, debt will be easier to pay back, while saving money for the long term will be a bit more challenging in the months ahead.