Fed Cuts Fed Funds Rate by 0.75%

Following the deterioration of the Global markets yesterday, the Federal Reserve came together early this morning in an unscheduled meeting to slash their key rate by 75 basis points.  The move didn't necessarily shock Fed watchers, but there are a number of things that jump out at me.  Let's put this in perspective, shall we?

1. This was the first change in rates (up or down) by the Fed on a day in which a meeting was not scheduled since April 18, 2001.  On that day they met to slash rates 50 basis points.  I think it's fair to say that they surprised the market that day.  The Dow Jones Industrial Average surged ahead 388.95 points, or nearly 4%.  It was a gift to a market that was reeling from the crash in the NASDAQ and the tech stocks that had been taking place over the previous year.  Even the NASDAQ added 3.7% on that day.
2. This was the largest single day change in the Fed Funds target rate sine November 15, 1994, when the Fed raised rates 75 basis points.
3. The Fed has made a significant change in their outlook on inflation over the past 12 months.  As recently as March, 2007, the Fed statement read, "the Committee's predominant policy concern remains the risk that inflation will fail to moderate as expected."  That opinion was despite the fact that the sub-prime woes were beginning to reach public awareness.  Today, the Fed had this to say on inflation, "the committee expects inflation to moderate in coming quarters, but it will be necessary to continue to monitor inflation developments carefully."  As recently as December 11, 2007, the Fed stated that "readings on core inflation have improved modestly this year, but elevated energy and commodity prices, among other factors, may put upward pressure on inflation."  It's a significant change in outlook on inflation in six weeks.
4. The timing of this move came on the heels of one of the worst days in the global markets since the collapse of the Russian bond market in 1997.  Remember that?  That's the one that took down Long Term Capital Management, and nearly all of Wall Street with it.

So, what does all this mean?  Fed watchers may disagree on whether or not it is the job of the Federal Reserve to control markets.  The job of the Fed, according to their mission is to "provide the nation with a safer, more flexible, and more stable monetary and financial system."  It's a somewhat nebulous description.  Is their job to try to prevent bear markets, or just recessions?  How much inflation is acceptable?

Free market economists would have less disagreement.  The Fed should keep their hands off as much as possible.  Bear markets and recessions will happen.  Let them happen.  The markets will work themselves out.

It seems pretty clear that this move was a reaction to the collapse of the global markets, and the Fed's attempt to prevent a similar collapse in US markets.  Did it work?  Well, this morning the US markets were down nearly 4%, and now as of this writing, US markets are down only about 1% from Friday's close.

Where do we go from here?  Your guess is as good as mine.  Our strategy is, as is always has been, not to panic.