Why Interest Rates May Be Hitting Bottom

WASHINGTON — The Federal Reserve is widely expected to call a halt to its eight-month series of interest rate cuts after announcing a final trim, likely a quarter-point, on Wednesday.

Whenever the Fed lowers its federal funds rate, banks follow suit by lowering the prime lending rate for their best business customers. That serves as a peg for setting rates on home-equity loans, credit cards, car loans and more. So Americans carrying heavy credit card debts or adjustable-rate home equity loans may argue that more rate cuts are needed.

But economists say there are many good reasons for the Fed's policy makers to pause:

WEAK DOLLAR

Lower U.S. interest rates encourage foreign investors to spurn U.S. dollars and send their savings to other countries that are paying higher returns. When they stop investing in U.S. dollars, our currency gets weaker.

INFLATION

A weaker dollar makes it more expensive for Americans to buy foreign oil and food. So rate cuts could lead to more pain at the pump and in the grocery store.

Lower interest rates also fuel inflation by encouraging investors to switch away from buying U.S. Treasuries and instead snatch up commodities, such as barrels of oil or bushels of corn. That bidding for commodities increases inflation.

WRONG MEDICINE FOR SOME

Cheaper loans won't do much good to shore up the weakest segment of the economy — real estate. With inventories of unsold homes still so huge, no amount of rate-cutting will get builders to rush out and hire more workers, at least not for a long time.

Also, lower rates won't help the weakest borrowers. The problem today for people with spotty credit records isn't high interest rates, but the willingness of lenders to extend credit at all.

Another cut in the federal funds rate might not even help credit-card borrowers much. The previous cuts have helped drive down interest costs for cardholders, but as credit-card interest rates have tumbled from about 14 percent last fall to nearly 12 percent now, many companies have hit a predetermined "floor" below which interest rates cannot fall.

OTHER HELP ON THE WAY

Besides cutting the federal funds rate three percentage points since September to its current 2.25 percent, the central bank also has been increasing liquidity by lending more money to banks. Also, tax rebates quickly approved by Congress to help consumers keep spending are now starting to arrive in mailboxes across the country.

WHAT ECONOMISTS ARE SAYING ABOUT THE FED

"We're with the consensus and expect a quarter-percent cut," said Milton Ezrati, senior economist with Lord, Abbett & Co., an asset-management firm. "There are signs that this crisis is ending, or at least is at the beginning of the end," he said. "So we think the Fed will stand pat" after Wednesday's cut.

"It takes a while for these actions to work," said Dan North, chief U.S. economist for accounts receivable insurer Euler Hermes ACI. "You're not going to see the full impact until late this year."

So rather that continue cutting rates, the Fed must start being patient, he said. "If you keep lowering rates, you spark inflationary pressures," he said. "They have to let time heal the economy's wounds."