Fed, Seeing 'Downside Risks,' Cuts Interest Rates Another Half Point

WASHINGTON — Worried that the U.S. economy may be sinking into recession, the Federal Reserve on Wednesday placed one more prop under it — a half-point interest rate cut.

The rate reduction was the second in just eight days. Since September, the nation's central bank has slashed rates five times, taking the benchmark federal funds rate from 5.25 percent to just 3 percent.

The Fed's policy makers indicated they are still worried about housing and jobs, and would keep cutting borrowing costs if that would help.

"Recent information indicates a deepening of the housing contraction, as well as some softening in labor markets," the Fed said in a statement. The rate cuts "should help to promote moderate growth over time, ... (although) downside risks to growth remain."

President Bush, visiting a helicopter company in Los Angeles, said he is confident about the economy's long-term outlook, but for now, "we've got some short-term issues to deal with."

He said one reason for optimism is that "interest rates are low."

The federal funds rate, which banks use when they lend to each other, serves as a peg for setting other interest rates. So after Wednesday's Fed action, major banks announced they are cutting their prime-rate loans by half a point, to 6 percent, the lowest level since the spring of 2005.

Banks charge their best business customers the prime rate, and also use it to set interest rates for consumer loans. So many Americans soon will be paying less interest on their credit cards, car loans, home equity loans and more.

Cheaper loans should help stimulate the economy, especially since rates have been dropping so quickly. The Fed cut rates three-quarters of a point on Jan. 22 during a rare unscheduled meeting.

The prospect of low-cost loans initially cheered Wall Street investors, who sent stock prices up. But by the close, a more somber mood returned and the Dow Jones industrial average closed down 37.47 to 12,442.83.

Investors spent the first part of the day absorbing a gloomy report from the Commerce Department. The report said that in the final three months of 2007, the gross domestic product grew at an annual pace of just 0.6 percent.

That was a dizzying plunge from the third-quarter's growth pace of 4.9 percent. Most economists had expected fourth-quarter growth would come in between 1 percent and 1.5 percent.

But the economy appears to be taking a fairly serious beating from the still-worsening housing slump, reduced consumer spending, slower export growth and declining inventories.

A recession officially is defined as two straight quarters of a shrinking GDP. Future revisions of the GDP figure may show that growth actually was negative in the October-December period, marking the start of a recession if this quarter is as bad.

The Fed policy makers voted 9-1 in favor of spurring the economy with lower rates. Only Dallas Fed President Richard Fisher dissented, saying he preferred no rate change.

Economists who oppose more rate cuts think the Fed may have done enough stimulating already. They want the economy to cool a bit to beat back inflation, which has been rising along with oil prices.

The Commerce report showed that the price index for personal consumption expenditures rose by 3.9 percent in the fourth quarter, after rising just 1.8 percent in the third quarter.

And the labor market may be tightening up again, possibly putting upward pressure on wages. On Wednesday, Automatic Data Processing Inc., a company that processes payrolls, said job creation shot up in January by 152,000 non-farm jobs, more than double the number most economists had predicted.

Even as the Fed was doing its part to boost the economy, Congress was trying to move along a bipartisan stimulus package. Last week, the White House and leaders of the House agreed to spend at least $150 billion on tax rebates for individuals and tax incentives for businesses, hoping to spur growth.

The House approved the package Tuesday, and the Senate Finance Committee approved its version Wednesday on a 14-7 vote.

The Senate version differs from the House on several points. For example, it would provide rebate checks to more people and expand unemployment benefits. Still, lawmakers are expected to work out differences to complete the package before the Presidents' Day break begins Feb. 15.

Bush said that "whatever the Senate does, they should not delay this package."

Brian Bethune, an economist at Global Insight Inc., said in a written analysis that the Fed's campaign to drive down borrowing costs will help the economy until Congress's fiscal stimulus plan can kick in.

Bethune expects the Fed will lower rates by another quarter percentage point at the next policy meeting March 18, and then a quarter point again on April 30. "That will take the federal funds rate down to 2.5 percent, which should hold severe recessionary forces at bay until the fiscal stimulus 'jump-starts' growth in the second half of the year," he said.