Dollar Falls as FOMC Cut Target Rate to Zero

12-16-2008 15:15

Federal Open Market Committee (FOMC) cut its target for the federal funds rate late on Tuesday, to a range of zero to 0.25 percent. With virtually zero interest rate, the action would be followed by unconventional measures to stimulate the economy further. In the released statement, the Fed said it will use "all available tools" to revive the economic growth.

Fighting Deflation

Inflation is no longer a concern for the policy makers but it is now the fear of deflation, a widespread decline in prices, which has negatively affected the market sentiment.

Before the FOMC decision, a report from the Labor Department showed that Consumer Price Index fell 1.7 percent in November, it was more than 1.3 percent average analysts' estimates and the most decline on record. Producer Price Index, another gauge of inflation but at production side, fell as much as 2.2 percent in the same period, a last week report showed.

To fight deflation, the Fed Chairman Bernanke has already announced that he may use unconventional measures, such as buying bonds at open market to inject more money into the system.

Obama's Spending Plan

Analysts see the recent actions from the Fed in line with the fiscal policies announced by the U.S. President-elect Barack Obama. Sizable spending programs are ahead which include building new roads, schools, and other infrastructures; all to support the demand and generate jobs.

Euro Rose on FOMC, Trichet's Comment

Equity indexes rose and dollar weakened against its major counterparts after the FOMC rate decision and in response to the bigger-than-expected cut and the possibility of more supply of the dollar.

However, it seems that not all central bankers share the same concerns with the Fed. Earlier this week, the European Central Bank President Jean Claude Trichet said that he sees a "limit to decrease in rates" at this stage.

With being reluctant to ease policy as aggressive as other central banks, the Euro-area now has the highest benchmark rate among the G-7 members. The comment worked as a support for the euro before the FOMC rate decision.