The Fed Rate Cut vs. Inflation Fear

The Federal Reserve cut the target on a key short-term interest rate by half of a percentage point to 4.75% last Tuesday. On the same day, the Fed also cut its discount rate by another half of a point to 5.25% after the surprise cut on 8/17/07. It is clear that the Fed is willing to take any moves necessary to ensure that the US economy is not derailed by problems in the subprime mortgage market. The federal funds rate is an overnight lending rate that banks charge each other. The rate cut is a very important tool because this funds rate influences the amount of interest consumers must pay for various types of debt, such as credit cards, home equity lines of credit and auto loans. The Fed is “intended to help forestall some of the adverse effects on the broader economy that might otherwise arise from the disruptions in financial markets and to promote moderate growth over time.”

Stocks surge after the Fed announcement of rate cut. The risk of potential inflation starts to catch people’s attention. Inflation could come from the still-booming global economy and from the lower rates, which push more money into the economy, making it easier to raise prices. In the statement, the Fed indicated that more rate cuts could be on the way. Do you think the Fed might cut rates too much? Are we expecting inflation now? I remember that the Fed had to raise rates in 1999 after cutting them during the 1998 financial crisis and the economy ended up in a recession in 2001. Do you think the same thing is happening now?