Fed expected to reduce interest rates by a half-point

A quarter point cut by the Federal Reserve in interest rates would normally give Wall Street a boost. Today expectations of a half-point are running so high that anything less could plunge the market into the doldrums. The Federal Reserve chairman, Mr Alan Greenspan, is expected to announce the US central bank's decision at 7.15 this evening, Irish time, after two day's deliberation on how best to stave off a recession.

The case for an aggressive rate cut was strengthened by a report yesterday that consumer pessimism in the United States was rampant. A key monthly index of consumer confidence fell in January to its lowest level in more than four years.

"Consumers' increasing pessimism about the short-term outlook has sent the expectations index into territory normally seen prior to a recession," said Mr Lynn Franco, director of the Conference Board, a New York-based research group which compiled the data.

Most economists are unanimous that the interest rate cut will be half a percentage point. "It's a done deal," said Mr David Wyss, chief economist for Standard & Poor.

"When Alan Greenspan says growth is near zero, it means the Fed believes they need to do more," said Mr Bruce Steinberg, chief economist of Merrill Lynch.

The stock and corporate bond markets have stabilised since Mr Greenspan abruptly lowered the benchmark federal funds rate from 6.5 per cent to 6 per cent on January 3rd. This led some experts to sound a note of caution about further big cuts.

The federal reserve chairman "won't have to move aggressively", said Mr Irwin Kellner, chief economist for CBS MarketWatch He argued that tax cuts planned by President George W Bush "will do some of the Fed's work" in reviving growth.

However, Mr Greenspan and the seven Federal Reserve governors who must approve any rate change will have to consider whether the markets have stabilised simply because a further half point rate cut has already been factored in - and the damage which could result from not meeting expectations.

The Fed chairman set the hare running when he told the US Senate budget committee last week that the economy had almost ground to a halt. "Indeed we are probably very close to zero at this particular moment," he said. He indicated that there was scope for a rate cut as inflation was "exceptionally well contained". The US inflation rate has fallen since peaking at 3.7 per cent in June.

The Federal Reserve has not varied interest rates by a whole decimal point in one month since 1984. Before the January 3rd reduction, Mr Greenspan had raised interest rates six time to their highest level in 15 years.

Many of the key indicators being studied by the bankers in the vast marble Federal Reserve HQ on Washington's Constitution Avenue, show where the economy has been, not where it is going. One of these is growth data for the fourth quarter of last year, due to be released today.

The economy grew at 2.2 per cent in the third quarter, down from 5.6 per cent in the April-June period and growth is predicted at 2 per cent for the October-December period.

There are many indications that the economy is continuing to slow down. Production in US industry is falling. Business inventories are piling up, with the inventory-to-sales ratio in November the highest in 18 months. The manufacturing sector has shrunk for five straight months to December. Lay-offs by big corporations have been mounting, the latest being Chrysler's plan to downsize its workforce by 26,000 over three years.

Against that, the unemployment rate in December was, at 4 per cent, just fractionally above the 30-year record low of 3.9 per cent in October. US executives still complain that they cannot find enough qualified staff. And, while home sales have fallen, the property market has not collapsed. Weekly surveys of chain store sales have also shown a slight improvement after a sluggish last quarter.

A steep fall in consumer sentiment is nevertheless a red light for growth. Consumer spending accounts for two-thirds of US economic activity. A collapse in consumer confidence preceded the recessions of the 1980s and early 1990s.

The Conference Board said yesterday its monthly index of confidence fell for a fourth straight month in January to 114.4, well below the 124.2 economists had forecast and its lowest since December 1996 - though not so low it said as to suggest an outright recession.

Mr Greenspan has identified consumer confidence as a key to determining if a rapidly slowing economy will unravel further. He told the Senate budget committee: "The critical issue we need to address is whether that degree of contraction is enough to breach the fabric of consumer confidence. At the moment it is not.

"Consumers' assessment of current business and labour market conditions, while declining, does not yet suggest the economy has completely run out of steam," Mr Franco said.

The meeting of the Federal Open Market Committee, comprising governors and presidents of the Fed's regional banks, began its closed door meeting yesterday morning.

The Federal Reserve's rate revision is likely to be followed by a similar cut in US commercial banks' prime lending rate, the benchmark for millions of personal and business loans, standing now at 9 per cent. Lowering the cost of borrowing would stimulate business investment and consumer spending.