Fed Cuts Discount Rate and U.S. Markets Respond

The Federal Reserve Board cut the discount rate from 6.25% to 5.75% before the opening stock market bell on August 17. The Fed announced that it was taking this action in order to “promote the restoration of orderly conditions in financial markets,” after weeks of volatility in equity and bond markets in the U.S. and overseas.

Overnight, August 16-17, Japan’s Nikkei 225 had dropped 5.4%, or 874.81 points, to 15,273.68; and Hong Kong’s Hang Seng Index closed at 20,387.13, down 285.26 points, off 1.38%. Reaction on U.S. exchanges was swift, with the DJIA soaring in morning trading, at one moment up more than 300 points, and closing at 13,085.82, up 240.04.

Despite the U.S. markets’ euphoria, some experts are skeptical that the rate cut is good news. In an e-mailed HFE Notes to subscribers and journalists, High Frequency Economics’ Chief Economist Carl Weinberg, and Chief U.S. Economist Ian Shepherdson, pointed out that cutting the discount rate rather than the Fed Funds rate may indicate a serious complication to the liquidity crunch, the potential failure of an institution, “probably not a bank, but rather an institution that has substantial bank liabilities that may not be able to clear.”