Wednesday October 31, 12:49 am ET
By Alan Zibel, AP Business Writer
The Federal Reserve policymaking committee is expected to approve cutting a key short-term rate at least a quarter percentage point Wednesday to help the economy get through a deeper-than-expected housing slump and credit crunch that accelerated in August.
Investors are betting the central bank will reduce the federal funds rate, the rate banks charge each other for overnight loans, to 4.5 percent. Over the next 12 to 18 months, lower short-term rates will aid the overall economy because many equity credit lines and some credit card rates are pegged to short-term market rates.
Yet the Fed's efforts now, on top of a half-percentage-point rate cut in September, won't change the outlook much, if at all, for companies on the front lines of surging mortgage defaults and a dried-up market for complex securities backed by home loans.
"The problems in the housing market, the problems in the credit markets are not easily solved by the Fed cutting rates," said Steve East, chief economist for investment bank Friedman Billings, Ramsey & Co. in Arlington, Va., who sees the Fed making three quarter-point cuts by January and puts the odds of a recession in 2008 at 60 percent.
The thinking is that lenders can improve battered balance sheets if they have to pay less for money they borrow short-term while the rate they charge borrowers for long-term loans holds steady or moves higher. Yet analysts say problems in the credit markets extend beyond the benefits of small rate cuts.
Struggling homebuilders, such as D.R. Horton Inc., Lennar Corp. and Pulte Homes Inc., are faced with tightened lending standards and severely limited demand. Many would-be buyers are unable to qualify for loan approvals, even if rates move lower.
Lower interest rates are "certainly not the panacea" for getting the housing market back on track, said UBS homebuilding analyst David Goldberg.
The median U.S. home price nationwide fell for the eighth consecutive month in August, according to the S&P/Case-Shiller index released Tuesday. Fifteen of 20 metropolitan areas included in the index declined. Many experts predict housing prices will fall further before demand rebounds.
Jefferson Harralson, a banking analyst with Keefe, Bruyette & Woods Inc. who follows banks such as Bank of America Corp. and Wachovia Corp., said an acceleration in losses from defaults "seems to be a given, whether or not a rate cut occurs."
He says home equity lines of credit will be less likely to default if rates are lower. But that's hardly a revenue cure for banks in an environment in which housing prices continue to fall and foreclosures continue to rise.
"The home equity business isn't going to be a growth business," Harralson said.