Federal Reserve & Interest Rates

Vice chairman of the Federal Reserve Board of Governors, Donald L. Kohn, gave a speech Friday on the economic outlook. He reflected on recent actions made by the FOMC and explained the move.

“…it seemed that a decrease of that size could well be necessary to promote moderate growth. We had been holding the federal funds rate at 5-1/4 percent, well above the expected rate of inflation, in part to compensate for what had been very narrow yield spreads and readily available credit. We did not know how quickly markets would recover, the extent to which credit terms and standards would be tightened, or precisely how households and businesses would respond to recent or forthcoming financial developments. But, pending further evidence, a 50 basis point easing was not an unreasonable first approximation of what might be required to keep the economy on a sustainable growth path.”

Some critics were quick to say that the high market performance and the new positive employment data make the move look unnecessary in hind sight. According to Kohn, it was a reasonable and safe move, and the goal was to have a healthy affect on the economy for the long term, not so much for a quick fix.

Kohn continued to describe current conditions. Several markets have shown signs of improvement. It will take time for the new policies to ease the economy overall. Kohn expects housing markets to remain depressed for at least several months. Credit may continue to be more difficult and more expensive to obtain for some.

He also noted, “The FOMC emphasized the considerable uncertainty in the outlook. As I noted earlier, we do not know how financial markets will evolve, and we do not know how households and businesses will respond to financial developments. Naturally, these types of uncertainties are greatest when markets are behaving abnormally.”

As for the falling value of the dollar, new German economic data suggests that there may be a slip in the strength of the Euro. A lower Euro value is good for the U.S. Only time will tell how the United States economy will end up. It is too early to tell how recent events will impact the overall future economy. What we do know now is that we should be prepared for some difficult times in the months ahead. Overconfidence in the market could become a problem.

Hopefully, we will pull through the months ahead, and the worst is almost over.

There was a bit of a scare when the statistics for August 2007 came in from the Bureau of Labor Statistics. A decline of 4,000 jobs was reported, and it made the Federal Reserve a little nervous at the numbers.

It turns out that the employment outlook is a lot more positive than originally thought. As of September, revisions are being made due to a significant increase in jobs. Local education, which is typically in recess for the summer, caused the alarm that the job market took a sharp downturn. Now, with the teachers, school secretaries and guidance counselors all back to work, the employment rate is looking up again.

Corrections to the August statistics are now showing a revised 89,000 jobs, as opposed to the 4,000 lost jobs originally reported in August. Non-farm payroll statistics for the month of September showed an increase of over 100,000 new jobs.

So what does this mean for the Fed?

The federal funds rate and the discount rate where lowered recently, and the unemployment reports from August had some impact on that decision. Was it the right thing to do? Some economists say that if the report did not show such a sharp downturn in employment, the Federal Open Market Committee would have held off on the rate cuts.

Investors and economists are now skeptical about additional rate cuts at the next Fed meeting that the end of this month. Thoughts were originally that there were more rate reductions on the way. With this new positive employment data, it is more than likely that the Federal Open Market Committee will hold off on additional cuts until more time has passed. Economic performance may not be taking as much of a downward turn as it was originally thought.

There is still a great deal of economic uncertainty that the Fed has to deal with. Unemployment is still a problematic issue in a few different states that have a lower than average employment rate. Michigan has an all time high unemployment rate of 7.4% and Alaska’s rate is right behind it at 6.3%. Inflation has not stabilized as of yet, and the value of the dollar has continued to show signs of weakening in Foreign Exchange.

While the news of overall employment is looking better than it did last month, the country still has plenty of economic uncertainty.

If you understand how the structure of the Federal Reserve works, then you know that the Board of Governors has several advisors. It is coming to the time in the year where the Consumer Advisory Council will meet to discuss issues that pertain to you, the consumer. Later this month, on October 25, 2007, the Consumer Advisory Council will hold an open meeting to discuss to main current issues.

The first issue to be discussed is the Home Ownership and Equity Protection Act (HOEPA). This act, passed by the Federal Trade Commission (FTC) in 1994, was created to detail the rights of borrowers to make use of their home equity. Loans that are covered by the act must meet certain requirements.

The three types of loans that are covered under this act are:

1. The original property mortgage if the APR exceeds eight percentage points on Treasury securities of comparable maturity.
2. A second mortgage if the APR exceeds by more than ten percentage points in Treasury of comparable maturity.
3. All of the fees and payable points at closing; either $510 or eight percent of the total loan, which ever one is larger. Credit insurance in connection with the transaction are also included as fees.

Under HOEPA, the loan amount, the APR, the variable rate, the payment amount and the warnings concerning default are required to be disclosed in written form. All of this information must be given by the closing date.

The Truth in Lending Act (TILA) will also be discussed at the meeting. TILA is under Title I of the Credit Protection Act. It basically states that all key terms of the lending agreement, such as fees, interest rates and penalties, should be disclosed to the consumer/borrower. Credit card practices and dispute procedures are also regulated in this act.

On October 25, 2007, these issues will be brought to the table. With all of the foreclosures, and the plummeting of the subprime lending market, it is time to review consumer rights and see what might be done to help the issue. This will also be an opportunity for the public to speak on these matters. The Federal Reserve Board welcomes comments from the public during the discussion of these issues.

This meeting is open to the public, but registration is required by the 23rd of this month. You can register on the Federal Reserve Website.