Federal Reserve Cuts Federal Funds Rate to 3.5%

Reacting to the worldwide market sell off over the last two days of trading, coupled with the US market sell-off last week, the Feds cut its Federal Funds rate to 3.5% this morning, one week before its regularly scheduled meeting. While the Feds are reacting to the markets instead of anticipating them, this move still should help. I'd look for another cut next week following the regular Fed meeting, depending upon the reception this gets, of about another one quarter to one half a percentage point.

Markets are 95% emotion and 5% fact. While the sub-prime crisis is pretty bad, it is only a small section of the lending market and financial institutions are taking the necessary moves themselves to take care of it (i.e. BoA's purchase of Countrywide). But lending institutions, like people, tend to go overboard and overreact. Although we're seeing the lowest mortgage rates that we've seen for a while, institutions are very slow to lend right now. So this easing of the Fed Fund rate should be seen as a compliment to President Bush's stimulus program last week. The Feds are essentially injecting billions into the lending markets, while the administration is proposing to inject billions into the consumer market by offering substantial one-time cash rebates to tax payers.

Now it's time for Congress to act. The best, most responsible, and minimum they should do is:

1. Make permanent the Bush Tax Cuts, due to expire in 2010;
2. Allow for accelerated depreciation of new business assets;
3. Publicly vow that they will not enact any plan to raise taxes; and
4. Publicly come out and claim that they're now open to more domestic oil production.

When the Democrats were in the minority, it was easy for them to rail on the GOP for enacting laws that benefited "the rich". But the few responsible Democrats leaders in Congress, behind their rhetoric, know that it is the so-called "rich" that actually drive the economy and create a majority of the new jobs in the country. Any effective stimulus plan must target them.

The Dems will offer their own stimulus plan targeting their own constituents (i.e. those who do not pay taxes). Since that money will also be injected directly into the economy, that should probably be signed into law as well - look at it as a trade off for the measures I outlined above.

If the Democrats in Congress offer only the cash payoff to their perceived constituency, then the President and the Republicans must go on the offensive now and make the Democrats "own" any further downturn to our economy. It's easy to do, but as the mainstream media will do everything in their power to negate that message, everybody (current office holders plus GOP candidates) must be on the same page and repeat the mantra over and over again - low tax rates and adjustment to tax laws that encourage investment is the way to get the economy back on its feet.

Remember, we haven't seen GDP figures that indicate that the economy is contracting yet. And if you remove energy costs form the equation, inflation is still only around 2%. So the problems we are experiencing is primarily in the housing and finance markets, along with the oil situation. Housing is cyclical, and if we haven't hit the trough yet we will by the summer. With proper action by the Fed, the finance markets should right themselves quickly.

The easiest way to solve the oil 'crisis' is by opening up domestic drilling areas. That change would send a signal to OPEC that we're not going to play their game anymore. The announcement alone will probably entice the oil cartels to increase production, thus lowering costs, because the last thing they want is for us to become less dependent on them. As long as they can sell us their oil at a slightly lower cost than what it would cost us to get our oil out of our ground, everyone will be happy - and we might not have to begin drilling. But to take any domestic oil production off the table, as the Democrats and the environmentalists have done, plays right into Saudi Arabia's hand.

The above would take a considerable amount of political courage from the Democrats to accomplish. And I've never seen any political courage from them before, let alone at this level. But if they don't do something soon, and something big, it should be easy to hang a declining economy around their necks.