RATE CUT 101

In all likelihood the Fed is going to cut the Fed Funds rate tomorrow. The last cut came on October 8th in an emergency session, dropping the rate to 1.5%. This new cut may bring the Fed Funds rate under 1%; for the first time in history. The concept of the rate cut is to get banks leading cheaper money to businesses and consumers on "short term" loans; such as car loans, business loans, and credit cards. This would also lower the rates on home equity lines of credit; which no one can qualify for any more. This move by the Fed is the same thing that Alan Greenspan has been criticized for. After 9/11, Greenspan cut the short term rates so low, banks essentially could borrower the money for free, so there was great incentive to lend as much as they could, to whomever they could. The depressed interest rates is part of the reason we experienced a rapidly appreciating housing market.

This time around, things may be a little different. Banks are still shell shocked by their recent losses in the credit markets. So although the banks may be borrowing the money at a low cost, they may not be lending it to the consumer at a low cost. Also a cut in the Feds Funds rate, may send long term rates, i.e. 30 year fixed mortgages up. After a Fed rate cut, long term rates traditionally spike up, at least initially. Regardless, this likely move by the Fed will not have an immediate positive effect for the struggling homeowner, or home buyer. We will just have to wait and see what else they have in their bag of tricks.