Fed lowers interest rates again

In an effort to bolster the US economy, the Federal Reserve is lowering short-term interest rates by another quarter of a percentage point.

The latest reduction, announced Tuesday afternoon, marks the third time in three months the Fed has cut interest rates. And the nation's central bank, citing signs of weakening consumer spending and a softening of business, intimated that it might be willing to lower rates again when it meets at the end of January.

The Fed's reductions follow the meltdown in the credit markets this past August. Despite those reductions – and mortgage rates being close to two-year lows – banks have been reluctant to lend. Almost every day, another bank announces a multibillion-dollar loss because of bad loans made in the mortgage market.

At least one Fed governor thought that interest rates ought to have been lowered Tuesday by a half percentage point. The quarter-point drop disappointed Wall Street, which had been expecting a larger cut. The Dow Jones Industrial Average, which had been up before the Fed's announcement, quickly fell almost 300 points.

"The Fed is late, and they know it," says Gregory Miller, chief economist at SunTrust Banks in Atlanta. "If they had to do it all over again, I think they would have started dropping rates earlier so it could be done in a more controlled fashion and allowed the market to adjust in a less volatile fashion."

Yet in the third quarter of the year, the Fed was dealing with an economy that showed no signs of strain. The gross domestic product rose at a rapid 4.9 percent rate, bolstered by strong exports.

In the current quarter, some economists expect the GDP to be less than 1 percent.

"More often than not, the economy accelerates just before it goes over the cliff, and then the downturn is over before we even know we're in it," says Mr. Miller.

One major worry for economists is the reaction of CEOs to the economic clouds. The National Federation of Independent Business (NFIB) reported Tuesday a sharp drop in business confidence.

"The survey [which is converted into an index] hit a 14-year low, which is what makes this significant," says Robert Brusca of FAO Economics in New York.

The drop in the NFIB index, says Mr. Brusca, correlates with consumer spending. "This is where most of the jobs are – in small business – so when small business is doing well, people have more money to spend."

The NFIB survey also found business increasingly reluctant to spend money on capital projects. Such spending is crucial for the economy to grow new jobs, says Miller. "That is the first part that generates demand for new jobs," he explains. "If business expects the economy to slow, they are less likely to spend money from their own pockets to expand."

Despite the deepening gloom, there are no signs of major layoffs so far. Last week, Challenger, Gray & Christmas, an outplacement firm in Chicago, found layoffs were about 73,000 in November. Unless layoffs surge this month, this year would be the first time since 1999 in which no month has had more than 100,000 job cuts. Year to date, layoffs are 7.6 percent lower than 2006.

However, Brusca says job cuts are sure to come. "Employment lags on the way up, and layoffs lag on the way down," he says.