Saturday, December 20, 2008

What is the US Fed doing?

Fed's damage control
Source: Washigton Post

Fed's promises explained in plain English
Source: Marketwatch

First, the Fed cut its target for short term rates to just above zero and pledged to keep its target for short-term rates low "for some time."

Secondly, the Fed promised to employ "all available tools" to help the economy and financial markets. In essence, the Fed intends to be "the invisible hand" in all financial markets, according to Joel Naroff, president of Naroff Economic Advisors. The Fed hopes that its action will reduce the spread.

Will the Fed's action work?
But by keeping credit flowing, the Fed is buying time for banks to heal. In the mortgage market, the Fed purchases have already brought down the cost of mortgages, resulting in a spurt of activity. "This latest change in monetary policy strategy by the Fed has the potential to be highly effective in our view, and will better reduce the cost of borrowing for a vast majority of consumers and businesses," said the economic team at Wells Fargo.

But how long will it take?
That nobody knows. Former Fed governor Robert Heller said the aggressive Fed easing campaign began in earnest after the collapse of Lehman Brothers in mid-September. He calculated that the lag on policy would take eight months, putting the recovery in mid-May. Naroff said that the Fed's statement reminded him of John F Kennedy's inaugural address -- that the Fed would "pay any price, bear any financial market burden, meet any economic hardship, support any frozen market, oppose any negative economic activity in order to assure the survival and the success of the economy."

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