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2009-03-19 09:51:12
By JEANNINE AVERSA, AP Economics Writer
WASHINGTON With the country sinking deeper into recession, the Federal
Reserve launched a bold $1.2 trillion effort Wednesday to lower rates on
mortgages and other consumer debt, spur spending and revive the economy.
To do so, the Fed will spend up to $300 billion to buy long-term government
bonds and an additional $750 billion in mortgage-backed securities guaranteed
by Fannie Mae and Freddie Mac.
Fed Chairman Ben Bernanke and his colleagues wrapped a two-day meeting by
leaving a key short-term bank lending rate at a record low of between zero and
0.25 percent. Economists predict the Fed will hold the rate in that zone for
the rest of this year and for most if not all of next year.
The decision to hold rates near zero was widely expected. But the Fed's plan to
buy government bonds and the sheer amount $1.2 trillion of the extra money
to be pumped into the U.S. economy was a surprise.
"The Fed is clearly ready, willing and able to be the ATM for the credit
markets," said Terry Connelly, dean of Golden Gate University's Ageno School of
Business in San Francisco.
Wall Street was buoyed. The Dow Jones industrial average, which had been down
earlier in the day, rose 90.88, or 1.2 percent, to 7,486.58. Broader indicators
also gained.
And government bond prices soared. Heralding a coming drop in mortgage rates,
the yield on the benchmark 10-year Treasury note dropped to 2.50 percent from
3.01 percent the biggest daily drop in percentage points since 1981.
The dollar, meanwhile, fell against other major currencies. In part, that
signaled concern that the Fed's intervention might spur inflation over the long
run.
If the credit and financial markets can be stabilized, the recession could end
this year, setting the stage for a recovery next year, Bernanke has said in
recent weeks. The Fed chief and his colleagues again pledged to use all
available tools to make that happen, and economists expect further steps in the
months ahead.
Since the Fed last met in late January, "the economy continues to contract,"
Fed policymakers observed in a statement they issued Wednesday.
"Job losses, declining equity and housing wealth and tight credit conditions
have weighed on consumer sentiment and spending," they said.
The Fed's announcement that it will spend up to $300 billion over the next six
months to buy long-term government bonds was something that in January it had
hinted it would do. But some officials had seemed to back off from the idea in
recent weeks.
Such action is designed to boost Treasury prices and drive down their rates, as
it did Wednesday. Rates on other kinds of debt are likely to fall as well.
"This is going to help everybody," said Sung Won Sohn, economist at the Martin
Smith School of Business at California State University. "This might help the
Fed put Humpty Dumpty back together again."
The last time the Fed set out to influence long-term interest rates was during
the 1960s.
The Fed's decision to buy an additional $750 billion in mortgage-backed
securities guaranteed by Fannie and Freddie comes on top of $500 billion in
such securities it's already buying. It also will double its purchases of
Fannie and Freddie debt to $200 billion.
Since the initial Fannie-Freddie program was announced late last year, mortgage
rates have fallen. Rates on 30-year mortgages now average 5.03 percent, down
from 6.13 percent a year ago, according to Freddie Mac. The Fed's decision to
expand the program could further reduce rates, analysts said.
"This is not only going to keep mortgage rates low for a long period of time,"
said Greg McBride, a senior financial analyst at Bankrate.com. "The mere
announcement may produce a honeymoon effect and bring mortgage rates down to
even lower levels in the coming days."
The goal behind all the Fed's moves is to spur lending. More lending would
boost spending by consumers and businesses, which would revive the economy.
The Fed also said it would consider expanding another $1 trillion program
that's being rolled out this week. That program aims to boost the availability
of consumer loans for autos, education and credit cards, as well as for small
businesses.
Where does the Fed get all the money? It prints it.
The Fed's series of radical programs to lend or buy debt has swollen its
balance sheet to nearly $2 trillion from just under $900 billion in
September. Sohn believes the Fed's balance sheet could grow to $5 trillion over
the next two years.
The Fed has said it's mindful of the risks of pumping more money into the
economy, bailing out financial institutions and leaving a key rate near zero
for too long. There's the potential to plant the seeds for higher inflation,
put ever-more taxpayer money at risk and encourage "moral hazard." That's when
companies make high-stakes gambles knowing the government stands ready to
rescue them.
Across the Atlantic, the Bank of England last week began buying government
bonds from financial institutions as it turned to new ways to help revive
Britain's moribund economy. The Bank of England, like the Fed, already had
lowered its key interest rate to a record low of 0.5 percent.
Finance leaders from top economies have discussed coordinating actions from
their governments and central banks to provide a more potent punch against the
global financial crisis.
The Fed is taking the new steps as the U.S. economy sinks deeper into
recession. Businesses are facing weaker sales prospects as customers in the
United States and abroad cut back, the policymakers said.
Still, the Fed said it hoped its actions, the government's bank rescue effort
and President Barack Obama's $787 billion stimulus of increased government
spending and tax cuts eventually will help revive the economy.
"Although the near-term economic outlook is weak, the committee anticipates
that policy actions .... will contribute to a gradual resumption of sustainable
economic growth," the Fed said.
But even in this best-case scenario, the nation's unemployment rate now at
quarter-century peak of 8.1 percent will keep climbing. Some economists think
it will hit 10 percent by the end of this year.
The recession, which began in December 2007, already has snatched a net total
of 4.4 million jobs and has left 12.5 million searching for work.