Posted on: Wednesday, October 3, 2001

Fed's rate cut no instant cure, economists say

Associated Press

•

Hawai'i banks follow suit Hawai'i's financial institutions said yesterday they will lower interest rates effective today by 0.5 point in response to the Federal Reserve's announcement that it would cut a key interest rate for a ninth time this year. Bank of Hawaii, American Savings Bank and First Hawaiian Bank cut their prime lending rates from 6.0 percent to 5.5 percent. The prime is the benchmark for millions of consumer and business loans. — Advertiser staff

NEW YORK — Aggressive interest rate cuts begun by the Federal Reserve in January — and continued yesterday with another reduction in the federal funds rate — have been partially negated by last month's terrorist attacks just as they were trickling into the economy, financial experts said.

Problems present before the Sept. 11 terrorist attacks, combined with the plunge in confidence that followed, would mean that yesterday's ninth rate cut this year by the Fed will only help steady the economy, not fuel it forward, the analysts said.

"Eventually the economic policies will work. I think there's little doubt that that will happen," said Oscar Gonzalez, an economist with John Hancock Financial Services in Boston. "When and how soon and how fast ... nobody really knows because we are essentially in uncharted territory."

Yesterday's 0.5 percent cut pares the federal funds rate — what banks charge each other on overnight loans — to 2.5 percent. That takes the rate to a level not seen since 1962.

While the seven rate reductions before the attacks had produced few tangible improvements in the economy, analysts said that does not mean such cuts are ineffective, just slow in working.

"We were just getting to the point this quarter where lower rates were probably going to help the economy," said Gary Thayer, chief economist with A.G. Edwards & Sons Inc. in St. Louis.

Before the attacks, the first evidence of a turnaround was in recent reports on manufacturing showing an improvement in new orders, he said.

The Fed's stimulus arguably had helped many companies avoid bankruptcy and insolvency since it made it easier to float bonds or borrow, said Sung Won Sohn, chief economist at Wells Fargo & Co. in Minneapolis.

Low interest rates, notable in the terms of mortgage loans available to home buyers, also had fostered continued consumer spending, which accounts for two-thirds of all economic activity.

That gave businesses time to work through problems and reduce built-up product inventories.

Before the attacks, businesses were finding some problems difficult to solve.

Most still had not figured out what to do about huge investments in fiberoptics and other technology that simply was not needed, economists said.

Lower interest rates did not solve that problem, because such policy is useful for fueling demand, but not reducing excess capacity, Sohn said.

Those problems were already holding the economy back — and then terrorists struck. That has forced the Fed to act just to ensure there is no further backslide. Even so, many analysts expect an economy that was already on the edge to teeter into recession.

"Consumer and business confidence is key. That's what has been lacking and sliding," Sohn said. "The Fed can do a great deal to help prevent that confidence from sliding."

If confidence can be propped up now, then the interest rate cuts made by the Fed in the spring and summer will eventually help lift the economy, analysts said.