Fed cuts interest rate .5 percent

WASHINGTON — The Federal Reserve cut its key interest rate another half point to 3 percent Wednesday, completing an eight-day run during which the central bank slashed the rate more than at any time since 1990 in an effort to stave off recession and what it fears could be an economy-damaging credit crunch.

Coupled with its three-quarters-of-a-point cut Jan. 22, the Fed has sliced its signal-sending federal funds rate, the interest that banks charge each other for short-term loans, by 1.25 percentage points in a little over a week and 2.25 percentage points since it began the current run of rate cuts in September. And policymakers suggested Wednesday that they were prepared to cut still deeper if necessary.

The Fed also lowered the discount rate at which it loans directly to banks by a half-point to 3.5 percent.

In a statement explaining their latest move, Fed policymakers cited financial market conditions as remaining "under considerable stress" and warned that "credit has tightened further for some businesses and households." They also said that "recent information indicates a deepening of the housing contraction as well as some softening in labor markets."

Analysts said that policymakers' focus on markets indicated the extent of their concern about a financial freeze-up. Usually, the central bank goes to some length to avoid appearing to be responding directly to markets and investors, and instead it emphasizes its attention on the broader economy.

But policymakers apparently have decided that the combination of the subprime mortgage mess, a housing contraction and the repeated incidents of credit freezes poses a sufficiently serious danger to growth that they have to act decisively to reverse current trends.

"This is certainly an aggressive move by the (policymaking) Federal Open Market Committee," said Gregory Hess, an economist, former Fed staffer and dean of the faculty at Claremont McKenna College in California. "It appears that given the situation they see unfolding, they've decided to put their concerns about growth ahead of any concerns about inflation."

Traditionally, the Fed is the country's chief inflation fighter.

The new Fed move came as the government announced that economic growth slowed sharply last fall with housing construction plunging, consumer spending slowing and businesses battening down for trouble by slashing their inventories.

Growth of the nation's gross domestic product slowed to a 0.6 percent annual rate — its slowest pace in five years, the government announced Wednesday.

The growth figure for the last three months of 2007 was weaker than the 1.2 percent annual rate that most Wall Street analysts had predicted. Though the near-24 percent plunge in housing construction came as no surprise, the slowdown in consumer spending and business inventory accumulation did. And both pointed toward economic weakness.

"Clearly, we're an economy that is very close to a recession," said Nariman Behravesh, chief economist with Global Insight Inc., a suburban Boston-based forecasting company. "Just about all of the components of GDP were weaker, and even the bright spots — like exports — were glowing less strongly," Behravesh said.

For all of 2007, the GDP — the broadest gauge of the nation's output of goods and services — grew by 2.2 percent to $11.6 trillion after adjusting for inflation. That was the slowest rate in five years. The latest quarter's 0.6 percent growth rate represented a sharp slowdown from the third quarter's 4.9 percent rate.

"The U.S. economy is not growing as fast as we'd like," Commerce Secretary Carlos M. Gutierrez said in releasing the latest growth figures. In addition to the Fed's efforts, the Bush administration and Democratic congressional leaders have proposed a $150-billion package of temporary tax cuts and spending aimed at bolstering growth.

The Fed's decision to cut rates came despite signs that inflation is beginning to pick up. The inflation index accompanying the latest quarterly GDP report showed prices rose at a 2.6 percent annual pace, up from 1 percent in the previous quarter. The price measure favored by the Fed, which is linked to consumer spending but removes volatile food and energy prices, rose at a 2.7 percent rate.

Some analysts said the rise in inflation puts the Fed in a box; the central bank is responsible for making sure that prices don't get out of hand even as it encourages growth.

"I think the Fed is bonkers," said Allan Meltzer, an economist at Carnegie-Mellon University who is writing the definitive history of the central bank. Fed policymakers "frequently swear to themselves and each other that they are not going to ease (interest rates) excessively and then the economy slows a little and they do just that," Meltzer said.

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