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Three-peat? The Fed copies the 1990s Playbook to prevent a downturn

WASHINGTON (Reuters) – In the midst of what was a golden decade for the US central bank, central bankers twice in the 1990s cut interest rates into short-term damage that managed to help the US economy continue to grow despite slowing investments and weak growth abroad.

FILE PHOTO: The Federal Reserve Board building on Constitution Avenue is pictured in Washington, USA, March 19, 2019. REUTERS / Leah Millis

Today's Fed hopes a third time will be just as charming.

In its last two-day political meeting this week, Fed officials appear to be brushing the economy in a similar fashion with their third successive interest rate cut. It will match the moves made by then-Fed chairman Alan Greenspan in 1995 and 1998 at a time known as "the Great Moderation" for its steady growth, falling unemployment and temperate inflation.

There has been no clear commitment to yet another reduction in borrowing costs from Fed policy makers, though failure to lower interest rates on Wednesday could risk rising financial markets that are sure another cut will come. With billions of dollars in bets on futures markets linked to expected Fed actions, any deviation from the US central bank at expected rates typically leads to sharp fluctuations in the bond and stock markets.

An interest rate cut on Wednesday, which will be the Fed's third this year, would lower overnight lending rates to a new range between 1.5% and 1.75%. Politicians can emphasize that "the three cuts have cumulatively served to balance the risk of the outlook," and are likely to keep the economy on track, JP Morgan economist Michael Feroli wrote last week.

The Fed is scheduled to announce its latest political decision at. EDT Wednesday (1800 GMT). Fed leader Jerome Powell will hold a news conference half an hour later.

Politicians are unlikely to close the door for further action, but can "communicate patience when deciding future policy moves," TD Securities analysts wrote last week.


Investors have no specific opinion on when the Fed will move again after Wednesday, a signal to Powell and his colleagues that if they deliver expected cuts this week, they will have room to shape market expectations going forward.

According to CME Group's FedWatch tool here, the probability of an interest rate cut on Wednesday is 94%. After that, however, it is a coin toss if there are further changes for at least a year.

That in itself is a success for Powell. As of last fall, the Fed faced a greater gap between what politicians at the time thought would be continued interest rate rises, and investors' expectations that began to cut interest rates in the outlook as a global economic downturn seized on intensifying US-China trade. war.

The Fed, under pressure to lower rates by President Donald Trump, but also see US investment and production data weakening, reversed course early this year.

The financial markets have responded with largely simpler loan terms and lower interest rates on key benchmarks such as 30-year mortgages. Important aspects of the bond market, seen by some Fed officials as evidence of belief or lack of it in the near-term, have looked increasingly healthy.

Some of the ongoing problems that the trade war with China and the prospect of a disastrous British exit from the EU have also alleviated, at least a little.

It has helped to narrow the gap between the Fed and global market expectations.

It may have helped to narrow holes in the US central bank as well. Even the Fed officials who have been most eager to reduce interest rates now feel that a reduction by a further quarter percentage point should be sufficient for the year.


Today's conditions share a number of similarities with those that confronted the Fed about a quarter of a century ago.

In July 1995, Fed officials, who are now discussing whether slower-than-expected growth would weaken business investment, spread to employment plans and eventually household spending.

Just as weak growth in Europe is seen as a risk to US companies today, a weak outlook for Canada and Japan was a concern then, according to the report from the meeting at which the Fed adopted the first of three six-month interest rate cuts.

"Over the past six weeks, optimism has diminished," said former Fed leader Janet Yellen, who was president of the San Francisco Fed at the time. Without measures by the Fed "we could easily end up, I think, in an extended growth recession."

Forward to today, and again, the financial data has not been great.

The most recent jobs and retail reports were both weak. Economists polled by Reuters expect economic growth to slow down in the third quarter to an annual rate of 1.7%, up from a 2% pace in the second quarter. The preliminary estimate of gross domestic product will be published on Wednesday, before the Fed closes its policy meeting.

As the 1990s continued, it took two such "mid-cycle adjustment" rounds at two-year intervals, each involving three interest rate cuts of a quarter of a percentage point each, to keep recovery on track. It was derailed by the bursting of the dot-com stock market bubble, with a recession beginning in March 2001.

The expansion since the financial crisis of 2007-2009 and the recession have already disappeared in the 1990s to become the most prolonged period of sustained growth in the History of the United States.

While the pace has sometimes been lukewarm, Powell and colleagues argue that there is no reason why it cannot continue, and have promised to behave "as appropriate" to try to do so.

At a speech in Denver earlier this month, Powell nodded not only to the risks to the US economy, but also to the ongoing growth.

In balance, "this feels very sustainable," he said.

Graphic: Back to the 90s, here

Reporting by Howard Schneider; Editing by Dan Burns and Paul Simao

Our Standards: Thomson Reuters Trust Principles.

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