Fed Cuts Rates, Punishing Thrift, and Impoverishing Savers

by Hans Bader on December 16, 2008 · 4 comments

in Bailout Watch, Economy, Politics as Usual, Precaution & Risk, Regulation

The Federal Reserve has just cut the federal funds rate for loans to banks to an unprecedentedly low rate — ranging from 0.0% to 0.25% — well below its prior 1 percent rate.  After taking inflation into account, the Fed is literally giving money away.  The Fed’s low interest rates since 2001 helped spawn the current financial crisis and the mortgage bubble, greatly weakening the value of the U.S. dollar and reducing capital investment in the U.S.

The Fed’s rate cut will also have the effect of reducing already very low interest rates on savings accounts, costing savers money.   Not only is your bank interest rate less than the inflation rate, eroding the value of your savings, but to add insult to injury, you have to pay income tax on the insultingly-low interest, too.

The Fed’s action misdiagnoses the cause of the financial crisis.  Banks aren’t refusing to lend money because interest rates are too high — they’re refusing to lend because they are afraid they won’t be paid back.  The Fed’s irresponsible actions lend weight to such fears.

The Fed’s action, which is partly intended to prop up overextended borrowers by reducing their interest payments, sends the message that the government will protect such borrowers from the consequences of their own overspending and recklessness, regardless of the cost to others.

That same mentality is behind Obama’s campaign call for a freeze on foreclosures; the FDIC’s failed policy of reducing the mortgage payments of delinquent borrowers at failed banks; and calls by politicians like House Speaker Nancy Pelosi to bail out defaulting mortgage borrowers.   Banks’ reluctance to lend money in such a political climate, and fear that they won’t be fully paid back, is understandable.

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