Global economy gets global action on rates

In all, 22 nations have lowered interest rates since Monday.

By , Staff writer of The Christian Science Monitor

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    Intense: Jennifer Klesaris worked the floor of the New York Stock Exchange Oct. 8.
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    October emergency: The European Central Bank in Frankfurt, Germany, is helping to coordinate interest-rate cuts to try to restore order to chaotic markets.
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We get it. And we can move more quickly, and in a more united fashion, than you think.

That's the message the world's major central banks may be trying to send financial markets with their surprise Oct. 8 announcement of coordinated interest rate cuts.

A month ago, some European central bankers still sounded as if inflation, not recession, was their main concern. The US Federal Reserve seemed reluctant to cut its main rate any further.

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But volatile stock prices and frozen credit markets have now pushed the world economy to the brink, and central bankers may have felt they needed to do something dramatic to stop rising panic and fear.

"In some senses this is a feature of globalization. These people understand they are all in this together," says Edwin Truman, senior fellow at the Peterson Institute for International Economics and a former assistant Treasury secretary.

The US Fed reduced its key rate from 2.0 to 1.5 percent in the unprecedented joint action. That Bank of England cut its rate by a half-point, to 4.5 percent. The European Central Bank also lowered its rate a half point, to 3.75 percent.

Central banks of China, Canada, Sweden, and Switzerland also cut rates. The Bank of Japan said it strongly supported the joint effort, though Japanese rates are in essence too low to go down much further.

"The recent intensification of the financial crisis has augmented the downside risks to growth," said the Fed in a statement explaining the action.

Some major US banks, such as Bank of America and Wells Fargo, followed suit with their own half-point reductions. Thus, borrowers whose floating loans are tied to prime rates could see a reduction in home-equity, mortgage, or other costs.

"It's important and helpful that central banks are working in a coordinated way to deal with stress in the financial system," said White House spokesman Tony Fratto.

World stock markets continued to gyrate in the hours after the reductions were announced. In Britain, the main market index closed down more than 5 percent. Germany and France closed down even more.

At time of writing, the Dow Jones Industrial Average was also declining but remained volatile.

If nothing else, the coordinated cuts show how seriously central bankers view the current situation. For instance, it is only the second time in its 11 years of independence that the European Central Bank has cut rates outside of its normal schedule of meetings.

The first time was in the wake of the Sept. 11 attacks.

Only last week French officials were emphasizing the need for a strict interest rate policy – and, in Europe, they were not alone. The coordinated action was perhaps a bit of drama designed to show unity in the face of danger, and to shock investors somewhat with the suddenness and scale of action.

"A cut of this size is designed to speak to the market not just today, but for many days to come," says Christian de Boissieu, president of the Council of Economic Analysis in Paris.•

Will it work? That is the trillion-dollar question.

In the near term, lower rates may help restore some confidence to US markets, according to an analysis by Wachovia Economics Group.

But more rate cuts may be coming, predicts Wachovia. The carnage in the markets has been such that prices have fallen below what market fundamentals might dictate.

The problem is that major economies are already on the edge of recession, or already in it. Thus avoidance of a widespread slowdown is unlikely.

"The US economy and most major economies likely will remain in recession through the middle of next year," concludes the Wachovia analysis, though it adds that the coordinated cuts "should help reduce some of the downside risk to the economy and ultimately lay the groundwork for a recovery."

Going forward, it is important to remember that central bankers can coordinate more easily than finance ministers, says Mr. Truman of the Peterson Institute.

Central bankers are more independent, while finance ministers are political. And as Europe's struggles to work together on bank bailouts have shown, "the finance ministers are not nearly on the same page," according to Truman.

Finance ministers are meeting in Washington later this week under the auspices of the International Monetary Fund, and there may be lots of argument about whether lax US lending and regulatory policies are now dragging down the rest of the world.

"It is a very tense time," says Ralph Bryant, a senior fellow and international economics expert at the Brookings Institution.

Each of the bigger European countries has at least begun to take action to shore up their banks. The US Treasury's Troubled Assets Recovery Program will continue its start up process in the days ahead, and that could help unfreeze credit markets, says Mr. Bryant. And, if nothing else, the coordinated rate cut was handled well, given that even the Chinese cooperated, he says.

Staff writer Robert Marquand in Paris contributed to this report. Associated Press material was also used.

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