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Fed Surprise

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by Yves Smith and Felix Salmon
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Fed Cut: Eyeing the Discount Rate   The Sunny Side of Lehman's Earnings

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Sep 18 2007 12:00am EDT

Fed Surprise

It's 50bp, and it's unanimous! So much for prediction markets. The half-point gap between the funds rate and the discount rate remains, but with the discount rate now at 5.25%, it's definitely more attractive to banks facing liquidity problems. The Fed's statement explicitly says that it's cutting in response to financial, as opposed to real-world, developments:

Today's action is intended to help forestall some of the adverse effects on the broader economy that might otherwise arise from the disruptions in financial markets.

Are central banks becoming pushovers? First the UK government decides to guarantee all the deposits at Northern Rock, now this. Still, it's probably good for the central bank to be at least a little bit ahead of the curve. A 25bp cut would have meant that everybody expected another cut at the next meeting; after this, however, and with the language about inflation risks remaining, we might be stuck at 4.75% for a while.

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