When the Federal Reserve cut interest rates by 50 basis points in October, the board members clearly expected to need further cuts, based on the minutes of their Oct. 28 and 29 meeting that were released yesterday. When looking at the October minutes, you can see there was much more diversity in opinions than in June, but that diversity was centered around how bad things would get. No one sees significant improvement any time soon.The market expects a rate cut of 50 basis points when the Fed meets December 16. Given the continued gloomy picture, I'm not sure why the Fed is not already cutting rates more aggressively and possibly all the way to zero. The only problem is once they get there, they have nowhere left to go.
The Fed does project unemployment rates to reach 6.3 to 6.5 percent in 2008, which we've already reached. The Fed thinks the unemployment rate could go as high as 7.6 percent next year and then begin to drop in 2010 with an unemployment rate of 6.5 to 7.3 percent. In fact, some at the Federal Reserve board meeting think unemployment could go as high as 8 percent in 2009. Some think we'll start seeing signs of recovery by mid-2009, while other Federal Reserve board members think there will be a longer period of economic weakness.
Fears of a deflationary spiral also were discussed. Some economists think we're already at the start of a deflationary spiral, especially when you look at the state of the housing market. In a deflationary spiral people hold off buying because they expect prices to continue to drop, which can be a self-fulfilling prophecy and help fuel the spiral. With fewer buyers our there, sellers have to lower their prices to get someone to buy. Consumer prices certainly showed early signs of deflation in October when consumer prices fell 1 percent in October, the biggest drop since 1947.
Maybe as the news continues to worsen, the Fed will consider a cut between meetings to try to stabilize market conditions.
Lita Epstein has written more than 25 books including "Reading Financial Reports for Dummies."
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