What Fed rate cut to zero to 0.25% means for consumers

ByABC News
December 16, 2008, 9:48 PM

— -- The Federal Reserve took extraordinary actions Tuesday to revive the feeble U.S. economy. USA TODAY reporters Sue Kirchhoff and John Waggoner answer questions about the Fed's moves:

Q: What's the good news in the Fed's actions?

A: The Fed's decision to nudge its key fed funds rate to a range of zero to 0.25% along with its plans to buy securities that are backed by mortgages should mean lower consumer interest rates, particularly mortgage rates. Low mortgage rates mean that more people can afford to buy houses, which will help revive the moribund housing market. A drop in mortgage rates will also allow homeowners to refinance their loans at lower rates, easing some of the burdens of their debts.

Low rates also make it cheaper for companies to borrow and expand. That, in turn, is a powerful economic stimulus. Most major banks, including Bank of America and Wachovia, lowered their prime lending rate to 3.25% from 4% Tuesday.

The Fed also signaled that it is willing to try other things to stimulate the economy, including buying Treasury securities. "They're saying, 'We're going to do whatever it takes for as long as it takes,' " says John Silvia, chief economist for Wachovia.

Q: What's the bad news?

A: The Fed wouldn't lower rates this far and signal its willingness to take a host of unconventional actions if the economic situation weren't so dire. The nation is entering the 13th month of a recession, and the unemployment rate hit 6.7% in November, up from 4.7% a year earlier. The Fed is worried about an extremely severe recession and the outlying possibility of deflation a persistent decline in prices. In a deflationary period, the value of assets falls, but debt payments become more onerous. At this point, deflation is not a major concern. But the Fed is monitoring conditions.

Q: Aren't such low rates and policies inflationary?

A: In theory, they can be. But at the moment, inflation is deader than King Tut. The government's consumer price index fell 1.7% in November, the second-consecutive record decrease.