The Fed surprises everyone with a 50-basis-point interest rate cut.

April 18, 2001 9:37 AM

The Fed surprises everyone with a 50-basis-point interest rate cut. (That's half a percent in lay terms.) The annoucement came out of nowhere, and the markets have gone nuts on the news: Dow up 4%, Nasdaq up 9%. But is this good news overall? I don't think it is; I think it means Alan Greenspan has data on the state of the economy that shows it's worse than everyone believes.
posted by aaron (23 comments total)

I have to agree. I wasn't too worried about the downturn and then when factory orders rose yesterday for the first time in 5 months I felt even less concerned.

This worries me though, hand me the TUMS.
posted by Mick at 10:50 AM on April 18, 2001

I'm skeptical. Where is the news that (a) the recession has bottomed out or (b) that tech stocks -- fueling the resurgence -- are really worth a rally.
posted by MattD at 11:02 AM on April 18, 2001

Either that or Greenspan has finally lost it, and is now flinging feces against the wall and hoping something sticks
posted by owillis at 11:13 AM on April 18, 2001

I'm glad that I live in Moral Hazard Land, the happiest place on Earth! Matt, the stock market is (theoretically) a forward-looking system, so some of the rise is attributal to the idea that a rate cut means higher profits 6 to 9 months down the line and/or staves off a recession. Much of it looks like an old-fashioned buying panic to me, though.
posted by snarkout at 11:17 AM on April 18, 2001

I think he has the same data that the rest of us have, and that data's plenty bad. Given what you already know, would you be happier if he didn't do anything?
posted by anapestic at 11:20 AM on April 18, 2001

Wow, do i regret not waking up early today. I was going to buy Intc. Would've made a nice profit on it. Now it's too late. :(
posted by Witold at 11:34 AM on April 18, 2001

When I heard this story, the first phrase that came to mind was "momentum buying". In short, Greenspan has performed a colossal ramp job that makes him look like the Buzzes and Batches of the Street. Or even worse, like a fucking daytrader.

This week was set to be a killer, with big tech firms reporting down and out on first quarter revenues. (Cisco's report, in particular, is a masterful piece of creative accountancy.) This is a smoke grenade. It's going to destroy his credibility among those attempting to judge the "real economy", outside the day-to-day speculation of the big houses with other people's money.

It's always scary when the markets are seen to drive the economy, rather than reflect it. The big picture has gone out of the window. Then again, when nearly 60% of Americans have money in equities, perhaps it is the big picture. In which case, it's a worrying one indeed, because it's more or less saying that the entire economy -- in particular, people's health premiums and pensions -- hangs on the whims of the markets.
posted by holgate at 11:45 AM on April 18, 2001

Isn't a recession three consecutive quarters of falling real gross national product? There has barely been one quarter of negative growth. The sky isn't falling (yet). I think Greenspan jumped the gun by raising rates too fast last year trying to ward off inflation and now we see the fallout from his panic.
posted by ethelfarts at 11:51 AM on April 18, 2001

When I heard this story, the first phrase that came to mind was "momentum buying". In short, Greenspan has performed a colossal ramp...

That's the beauty of the moral hazard, Holgate; when it appears that a central bank is actively attempting to prop up stocks below a certain level, that gets priced into the market, causing artifically inflated prices. After saying that things weren't so bad, the Fed needs to either point to some scary data that just came out or make this their last cut, because otherwise I think this is the last time Greenspan's going to be able to juice things. (Not that I think they should have been juiced anyway; a profit recession does not a recession make.)
posted by snarkout at 12:18 PM on April 18, 2001

I do agree that the equities markets should be forward looking ... my feeling is that there is still strong evidence that 94-2000 represented a period of continually accelerating capital spending culminating in a 2-year out of control period 98-2000 ... meaning that a big, structural drop in corporate spending has already occurred, and building back to 1999 levels of growth may take a LONG time....
posted by MattD at 12:25 PM on April 18, 2001

my only comment is in response to ANY reference to a 'good' economy: y'all been had. the economy sucks, it has sucked for over 30 years and it sucks more every day. and we all lie to ourselves or accept the lies of politicians about it. my dad earned 5200 bux per annum in 1960 and bought a brand new home. mom opted not to work and raised 5 kids. we never lacked for anything. today our money isn't worth the cost of the powder it would take to blow it to hell. it takes a minimum of 2 full time incomes to maintain the kind of lifestyle my parents enjoyed on $5200/year. everytime i hear some asshole talk about how good the economy is i want to throttle him out of his own ignorance. for crying out loud! it's hard to imagine, short of the great depression, when things have ever been worse!
posted by quonsar at 2:02 PM on April 18, 2001

Talk about "propping up stock prices" and a "moral hazard" is just a little bit ridiculous when the average large-cap. tech stock is down over 70% and the average Internet stock is down over 90% from the highs. Don't forget that $5 trillion dollars in market value has disappeared in the last year... if anything the Fed is guilty of too little too late.
posted by Chairman_MaoXian at 2:06 PM on April 18, 2001

[aaron] I think it means Alan Greenspan has data on the state of the economy that shows it's worse than everyone believes.

Maybe he's been reading The Dismal Scientist lately.

[quonsar] the economy sucks .... my dad earned 5200 bux per annum in 1960 .... we never lacked for anything.

Did you have computers? Cable TV? Three cars? Microwave oven? Nintendo? I think you lacked at least some of those things.

it takes a minimum of 2 full time incomes to maintain the kind of lifestyle my parents enjoyed on $5200/year.

Well, $5200/year isn't exactly worth the same as it was in 1960. My estimations say $5200 in 1960 is about $30000 in 2000. So that's not a horrendous salary. Depending on where you live that would probably even be enough to own a home and raise a couple of kids. I'm sure you could raise five kids on it if you didn't indulge in any of the extravagances of today's consumer culture, living only with 60s-level household items.

The reason people have to work so much more these days is that they want more stuff. They buy more stuff. And the stuff they buy has more features and capabilities so it costs more.

As for the economy sucking, it all depends on your definition. When the media or economists say the economy is doing well, what they mean is that our production of goods and services is growing; that more money is being spent; and that more people have jobs. All of those metrics are "helped" when both partners work, when people work longer hours, and when people buy more stuff (requiring more income). There may be negative social consequences to a "good economy," which I think is what you're arguing, and I tend to agree.

It's a tradeoff, just like everything else. In fact, if you tried hard enough you could probably come up with an economic model (a simple variation on the production possibilities model would work) to express the tradeoffs between a "good economy" and "healthy families" or whatever. An interesting problem for someone with some free time.

As for the interest rate cuts, I can't think of a better time. My wife and I were just about to refinance our home mortgage, and by golly we may just save another half-point (that's fifty bucks a month!).
posted by daveadams at 2:22 PM on April 18, 2001

A risk-free investment (government securities or government-insured CDs) pays (depending upon term) an average of 5%. Cut that down to 3% to account for income tax on the income.

Assume that a corporation reinvests all post-tax profits, so zero dividend. To get to that same 3% assuming 20% capital gains after 35% corporate income tax, you need to get to a 6% pre-tax profit as percentage of sales, which means that the appropriate base PE for any stock is 16.67. For every unit of PE that you add for growth potential, you have to subtract a unit of PE for risk ... which everyone acknowledged during the run-up as a financial construct (risk of loss of stock price) but now should acknowledge as a substantive business factor (risk of loss of sales of goods and profit margins on sales).

Given that, even now, the average large cap tech stock has (a) serious downward earning pressure in the near future, and (b) has a PE ratio in the mid-20s up to the 60s and 70s, even now, you have got to say that that market value that disappeared never rationally existed.
posted by MattD at 2:53 PM on April 18, 2001

Interest rates are, alas, a fairly blunt weapon with which to perform surgery on a palpitating economy. Japan has learned this: it has a zero interest rate policy and people still don't spend money.

if anything the Fed is guilty of too little too late.

To stretch the analogy, central banks are like family doctors, not paramedics. They can make occasional prescriptions, but they can't cure cancer. And the US economy is cancerous right now: as MattD says, people were building their lives either on a day-to-day attempt to catch the momentum and take profits, or on a misguided assumption of long-term intrinsic value.

Also, they're not equipped to deal with such iniquities as, say, the complicity of auditors and clients over baroque accounting practices: something that has been rife within the tech sector, where nonprofitablity makes it possible to perform some fancy tricks with profit/loss forecasting and one-time writeoffs. Addressing that is a job (in the US) for the SEC, which it hasn't done and won't do.

The depressing context of this decision is that the timing, in particular, designed for short-term consumption: to offset a week of bad numbers and pre-announcements. Greenspan has thrown in his hand with the daytraders, from the private investors who take the "advice" of CNBC, to the hedge funders playing poker with other people's money.
posted by holgate at 3:00 PM on April 18, 2001

Aaron, I think you are right on. Cutting that rate (1) between fed meetings, (2) by double the normal increment and (3) right after previous cuts suggests the fed thinks things are worse than most people believe. I predict a large wave of profit taking will kick in within one week. Then, actually, I would buy S&P 500 stocks/mutual funds. That will be the bottom of the market.
posted by ParisParamus at 4:05 PM on April 18, 2001

Dammit, we refinanced yesterday. Yesterday! AUGH!
posted by litlnemo at 5:28 PM on April 18, 2001

There's an option expiry on Friday, which is always good for a ramp job: it looks good on the performance graphs for yer mutual funds.
posted by holgate at 10:14 PM on April 18, 2001

daveadams:
Did you have computers? Cable TV? Three cars? Microwave oven? Nintendo? I think you lacked at least some of those things.

[sarcasm on] ahhh. so, paying for my daughters college is a lost cause, but what the hell, we've got Nintendo! Hey, she can just graduate with 100k of student debt like every other schmuck - and it's ok because she has cable tv and the web to distract her from the fact. And she won't need a lot of money anyway, just some frozen tv dinners for the microwave, eh? Life is good! Spoken like a true consumerbot, dave! I must say, your remarks are an example of the success of the 'education system'. the corporate masters are going to be very proud....[sarcasm off]
posted by quonsar at 5:53 AM on April 19, 2001

Yes. That's right. The corporate masters are trying to kill you.
posted by sonofsamiam at 7:32 AM on April 19, 2001

There's a nice new piece over at Forbes arguing that even at the most recent bottom, most tech stocks are still way overpriced.
posted by aaron at 7:41 AM on April 19, 2001

[quonsar] Spoken like a true consumerbot, dave

Hey, whoa, quonsar, I think you misunderstood my comments. In fact you're in the completely wrong ballpark. I suppose I was unclear, and I apologize for that, but hear me out.

You complained that people needed two incomes to survive these days when your family did fine on one, that you never "wanted for anything." My point was that there are a lot more consumer products today--a lot more categories of consumer products today--that people believe they need. There are more things to spend money on and therefore more apparent need for money. But if families today only bought the kinds of products available in the sixties, I'm sure they could live quite well on a salary equivalent to your father's.

That was my point. Am I wrong?

she can just graduate with 100k of student debt like every other schmuck

If it costs 100,000 bucks to go to college after your contributions and your daughter's, and this is a problem for you, I would suggest thinking about going to a cheaper school. :)
posted by daveadams at 10:40 AM on April 19, 2001

daveadams: That was my point. Am I wrong?

No, not really, and I was unclear as well. And I was being a bit facetious with the stuff about consumerbots and corporate masters. There certainly ARE more things that are viewed as "necessary" today. Most of them, it seems, entertainment-related. And I have no doubt that there were things my parents wanted but could not afford at the time... The big technology purchase of the 60's in our home was color tv! At any rate, I was doing a bit of venting (since I am currently experiencing some financial squeeze - kid in college!) and certainly there are large enough holes in my assertions to drive a truck through... chalk it up to bombast.
posted by quonsar at 2:59 PM on April 19, 2001