TOPICS > Economy

Fed’s Rate Freeze Punctuates Day of Wild Market Trading

August 9, 2011 at 12:00 AM EDT
The Federal Reserve announced Tuesday that it expects to keep its key interest rate near zero for the next two years, where it's been since December 2008. Judy Woodruff discusses how the markets reacted to the announcement with Mesirow Financial's Diane Swonk and Neil Irwin of The Washington Post.

JUDY WOODRUFF: For more on what the Fed said and how the markets reacted, we’re joined by Diane Swonk, chief economist for Mesirow Financial, a Chicago-based firm, and Neil Irwin, who covers the Fed for The Washington Post.

It’s great to have you both with us. Thank you.

Diane, let’s start with — with what the Fed said today. They had a gloomy forecast for some time to come. And they said they’re going to keep interest rates low for some time. Interpret.

DIANE SWONK, Mesirow Financial Holdings, Inc.: Well, I think actually the statement was even more breakthrough than that. They also said that they would continue to monitor and review and make any actions and adjustments necessary to the size and composition of their balance sheet.

Now, that’s Fed-speak for the opening the door to additional quantitative easing. That’s what we had seen, the big buying, bond-buying purchases of Treasury bonds that ended in June of 2011. So they’re opening the door to that. They’re going to clarify that over the next several weeks and months.

My guess is, the Jackson Hole, Wyoming, meetings will be quite an interesting meeting yet again with lots of news coming from there. But I think once traders really got down to interpreting the full body of what the Fed was saying is, the Fed really stood by the G7, the developed countries that said on Sunday that they would provide whatever liquidity necessary in the wake of the downgrade by S&P.

JUDY WOODRUFF: Neil Irwin, how do you see what’s significant in what the Fed said today?

NEIL IRWIN, The Washington Post: Well, what they’re saying is, the economy is even weaker than we thought it was when we met last in June.

Since then, we have had a slew of weak economic data in the last few days, of course, all this market volatility. And all that is making them say, you know, maybe we need to think about what else we can do to stimulate the economy, to push money into the economy.

The answer they came up with today was this kind of modest step of saying, we’re not going to keep interest rates low for an extended period, which we have been saying for two-and-a-half years. We’re going to keep them low for two more years, through at least the middle of 2013. That should mean lower interest rates for — across the economy.

JUDY WOODRUFF: And, Diane, again, unusual, I’m reading, that they put a date certain or at least a date around how long they want to keep these rates low.

DIANE SWONK: Right. And that’s one of the unprecedented parts of this statement today. And I think it took people a while to digest that. Was that good news or was that bad news, as Neil and both of you have already pointed out.

Also with that, we also saw the dissent. Three of the Federal Reserve presidents actually said, we don’t like that you want to put it out to 2013. And I think that also confused financial markets, because that’s an unusual number of dissents, of people saying, I don’t vote with them.

I think there’s just so much fatigue about Washington debate and disagreement, that they sort of folded that into the rest of Washington. And that’s the wrong decision to make on the Fed. Ben Bernanke has tolerated a lot more dissent than other Fed chairmen, and successfully moved forward with whatever he wanted to do, despite all those dissents he has had to face in recent years.

JUDY WOODRUFF: How do you read the dissent, Neil? And was there more confusion than clarity coming out of this today?

NEIL IRWIN: I don’t think it was too much confusion.

There’s a wing of the Federal Reserve, there are several policy-makers on that board who feel like the ultra-low interest rate policies they’re pursuing risk inflation, they risk asset bubbles, they risk driving the dollar down. And those policy-makers would like to see, if not immediately, a somewhat tighter monetary policy, not have this ultra-low interest rate policy in place for too much longer.

And so it’s not shocking that they would dissent and not want to move forward with promising to keep the policy in place for even longer. At the same time, this will be an ongoing tension, as, you know, these are difficult times, and the Fed will have more dissents as time goes on, most likely.

JUDY WOODRUFF: Diane, last night on the program and elsewhere, you’re hearing economists say they think that the likelihood is now greater of a second recession.

What did we hear or what did you hear from the Fed today that either confirms that or — or fights against it?

DIANE SWONK: Well, I think certainly the Fed acknowledged the weakness in the U.S. economy and affirmed and validated what we all feared about the U.S. economy.

And that is in the last couple of weeks and certainly since the last meeting, the U.S. economy looks a lot worse than it did, now only we’re — downward revisions. We’re in a growth recession to the first half of the year and the year — the six months prior to that, but also that the prospects, it’s not as temporary as we thought, some of the weakness. And it’s more stuck with us for a little while longer.

That said, the Federal Reserve stepped up to the plate and said, we are going to do what’s necessary. We’re going to monitor the situation and try to do what we can to do — to open the door to do whatever we can to stimulate the economy. And they said — opened the door. They opened the door to additional quantitative easing. They didn’t give us a certain amount they’re going to actually do. They didn’t say they are going to do it right away.

But they did open the door to doing more aggressive actions in the future if necessary. And I think they likely will be necessary. And that will help to avert a double-dip. Unfortunately, it won’t help us to avert the reality of a still very subpar moderate — modestly growing economy.

JUDY WOODRUFF: So, Neil, if somebody asks, is the Fed doing something about the economy right now, what are they doing?

NEIL IRWIN: Well, I think they would point out that they have had interest rates near zero for two-and-a-half years. And now they’re going to keep them there for two more years.

They also have a very large balance sheet. They have bought trillions of dollars worth of bonds to try and keep longer-term interest rates low. And the truth is, credit availability, interest rates are not the problem in this economy. It’s hard to argue that mortgage rates are too high or that corporate borrowing rates are too high, that that’s the reason we’re in such a difficult economic situation.

Whatever ails the U.S. economy, it is bigger than monetary policy, it’s bigger than the Federal Reserve. The question is, is there more to do to help? Would it help if they bought another trillion dollars worth of bonds to drive more interest rates down to strengthen growth? And they will certainly be considering that in the months ahead.

JUDY WOODRUFF: And I gather there’s no consensus on that?

NEIL IRWIN: There’s not. That’s why we saw all these dissents today from the Fed — the Federal Open Market Committee.

JUDY WOODRUFF: And, Diane, you have mentioned the confusion about today. Is that why the market seemed to be all over the place before it went up considerably at the end of the day?

DIANE SWONK: I think so. I think, although Neil and I both watch the Fed very closely, I saw one commentary say, you know, this is mutiny by the Fed.

And I’m like, this isn’t mutiny. I mean, Ben Bernanke has a lot of dissents. We know — we all know who they are. You know, Neil and I know these people. We know where the different groups are. And I think, you know, that wasn’t as much a surprise to us as it was to some in the financial markets to see actually three dissents all of a sudden. The number was the highest since 19 — the early 1990s, 1993 or so.

And so I think that’s where there was a bit of surprise, the number of dissents that they saw. But let’s face it. We’re in unchartered territory. And the fact that within the Fed, you would have some debate about which course you take in those unchartered waters, that is certainly normal and healthy. And I think that’s something Ben Bernanke has embraced and actually encouraged.

And I think once the markets sort of settled down with that concept, they were OK. But as much as Neil and I watch it — and I agree with Neil entirely — we all know who they are, this was I think a little bit more — it blunted the message a little bit initially.

JUDY WOODRUFF: Neil, how does the S&P downgrade look now four days out?

NEIL IRWIN: Well, it’s — it’s amazing. We have seen this remarkable volatility in the stock market and other financial markets, but, ironically, one of the effects in the markets has been to have money gush into Treasury bonds. So U.S. Treasury yields have fallen dramatically over the last three days. And it’s a good time to refinance a mortgage, for example.

JUDY WOODRUFF: Which is contradictory, isn’t it?

NEIL IRWIN: It is. But what happens is, the U.S. Treasury bond is still viewed, despite what S&P said Friday evening, as the safest asset in the world.

And so, when times look scary, when the world looks scary, global investors still say, I want the safety of U.S. government bonds.

JUDY WOODRUFF: So, is the U.S. economy strong or not, Diane?

DIANE SWONK: It’s not strong, by any means, but it is still limping along. And that’s about the best we can hope for. It certainly is better than the alternative. And that is a double-dip recession or worse.

JUDY WOODRUFF: Let me ask you both just quickly, what do you look for going forward?

Diane, I will quickly stay with you. I mean, are all eyes on Washington, on the White House, on the stock market, on Europe, or what?

DIANE SWONK: Oh. Well, I think we are going to see growth pick up slightly over the summer, but slightly is the operative word. We’re certainly marking down our forecast from what it has been. And the economy will continue to limp along. That is not enough for the millions that are still unemployed, particularly the long-term unemployed.

And it’s going to be a very hard environment, which is essentially what the Fed acknowledged today by saying it wanted to hold interest rates low through mid-2013. That’s saying, we’re not going to have a strong enough environment. It frankly would have been a bit of relief if the economy was so robust that the Fed actually had to raise interest rates today.

I know that sounds counterintuitive, but that would be the ideal, is that we were overheating and growth was so strong and unemployment was so low.

JUDY WOODRUFF: And what are you looking for in the days to come?

NEIL IRWIN: The two best things that could happen for U.S. growth in the next couple years would be for the European situation to be resolved, to get a sense that the — Europe is not going to dissolve into a new deep recession or even a breakup of the Eurozone, something dramatic like that.

The other thing that could help a lot would be a sense that Washington policy-makers can reach agreements and not have this brinkmanship that threatens default every time there is a disagreement over what — what our public policy should be.

JUDY WOODRUFF: Back to where we were a few days ago.

Neil Irwin, Diane Swonk, we thank you both.