Fed takes bold step as US interest rates slashed to record low of 0%

Published on Tuesday 16 December 2008 20:30

US INTEREST rates were slashed to a minimum of zero per cent last night as the US Federal Reserve made a desperate new attempt to stop the world's largest economy plunging into depression.

In an unprecedented move, the American Central Bank announced that it had reduced the federal funds rate – the interest that banks charge each other – to a range of zero to 0.25 per cent.

The bold initiative to cut the key interest rate to the lowest level on record came as the Fed pledged to use "all available tools" to combat a severe financial crisis in the USA.

Last night the move to cut the rate from the 1 per cent set in October was given an initial welcome on Wall Street, with the Dow rising as the markets absorbed the news. Many analysts had expected the Fed to make a smaller cut to 0.5 per cent.

In the statement to accompany the cut, the Fed's interest rate setting committee, chaired by Ben Bernanke, made it clear that there will now be a sustained period of low interest rates in America.

He said: "The committee anticipates that weak economic conditions are likely to warrant exceptionally low levels of the federal funds rate for some time."

It is expected that the Fed's decision will be quickly matched by a reduction in banks' prime lending rate, the benchmark rate for millions of business and consumer loans.

Before the announcement, the prime rate stood at 4 per cent.

There was also a clear hint from the Fed that it is prepared to look at further radical measures to avoid a catastrophic collapse of the US economy.

The committee revealed that it was "evaluating the potential benefits of purchasing longer-term Treasury securities".

Last night this was seen as signal that it was prepared to look at unconventional measures to kick start the US economy. A move to purchase asset-backed securities, commercial paper and long-term corporate debt is known as "quantitative easing".

The effect would be to put more money back into the economy . In theory this can increase bond prices and reduce yields, but some economist believe it can also stoke deflation.

Last night's cut was the latest in a series by the US central bank. It had reduced interest rates by 4.25 percentage points over the last 14 months to 1 per cent.

The latest move means that rates across the Atlantic are down by a minimum of 5 per cent in less then 18 months. The move by the Fed will increase pressure on the Bank of England further to cut rates here.

Earlier this month the Bank cut its base rate from 3 to 2 per cent – the lowest for more than 50 years. The Bank's last base rate cut followed a 0.5 point reduction in October and November's surprise 1.5-point reduction.