The latest rate-cut decision from the Federal Reserve came as no surprise to most investors. What's nice to see, however, is that the frantic pace of falling interest rates may finally be coming to an end.
Today's 25-basis-point cut in the federal funds and discount rates may not be the last move the Fed makes, but it at least restores a sense of calm to the markets. After making drastic cuts in each of the past three rate lowerings, Ben Bernanke and crew have apparently decided that more subtle moves are now adequate -- and are signaling that this may be the last cut for a while.
Why stopping here makes sense
In the coming days, you'll hear plenty of opinions on what the Fed should do next. For what it's worth, I'd love to see an end to this cycle of rate cuts.
I understand why the Fed cut rates all the way from 5.25% to 2% in just seven short months. The fortunes of ailing banks such as Citigroup (NYSE: C ) , Bank of America (NYSE: BAC ) , and Washington Mutual (NYSE: WM ) rest on increasing profit margins, and there's no faster way to do that than to steepen the yield curve. Cutting short-term rates while ignoring inflationary pressures accomplished that task quickly, as long-term rates have risen substantially in the past month.
But you simply can't ignore all of the reasons not to cut rates further:
- Keeping interest rates steady should help stabilize the falling dollar.
- If low interest rates were the cause of the real estate bubble, then stopping the cuts should help prevent another unsustainable asset bubble.
- Although growth has definitely slowed, we're not in a recession yet. Furthermore, companies in many sectors, including Caterpillar (NYSE: CAT ) , Honeywell (NYSE: HON ) , and UPS (NYSE: UPS ) , have had strong results in recent quarters.
- Perhaps most importantly, a pause will force everyone to realize that the Fed can't singlehandedly jump-start the economy.
For the sake of the health of the economy, I hope the Fed will call it quits here. Although the stock market may prefer lower rates, keeping inflation in check and supporting the dollar are worth the risk of a shallow recession.
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