Last week the Federal Reserve went nearly as low as it could, cutting the federal funds rate to a range of zero to 0.25 percent. The Fed cut the discount rate 75 basis points to 0.5 percent. And many central banks around the world slashed their rates too. The room for this kind of maneuvering has reached its endgame, at least in the U.S. and probably in Japan, according to most observers.
Indeed, some believe last week’s Fed move was almost beside the point. “It may have a short-term effect on the stock market, but it won’t do much for the credit markets,” says Gary Cady, president and CEO of Torrey Pines Bank. “The Fed rate as a pricing mechanism has been rendered virtually inoperable. Banks need to price on other mechanisms. The rate cut won’t change how we price loans—banks need to build in profitability,” Cady notes.
“The Fed’s action will not have a real effect,” contends Timothy A. Canova, associate dean and professor of international economic law at Chapman University. “The most relevant page in economics is Keynes’ description of a liquidity trap, when investors expectations are for negative balance sheets,” according to Canova. Only by “stemming the foreclosure problem, and adopting real accounting and real transparency can we stop the internal bleeding” that has put the world economy is such a sorry state, he says.