Fed disappoints markets, markets celebrate

The Federal Reserve finally decided not to give markets exactly what they wanted. Reuters reports:

The Federal Reserve slashed U.S. interest rates on Tuesday, boosting Wall Street, which was already higher on stronger-than-expected investment bank earnings.

Tuesday's three-quarters of a percentage point rate cut was less than the full percentage point many in the market had expected, but the Fed left the door open to an additional reduction. However, it noted its future action would take inflation concerns into consideration.

Stock market investors were unfazed.

Global stock markets were up early in the day in anticipation of the Fed's move and on stronger-than-expected earnings news from Goldman Sachs Group Inc and Lehman Brothers Holdings Inc. By the end of U.S. trading, the Dow Jones industrial average jumped 420 points, or 3.5 percent, while the Nasdaq and S&P 500 indices rose more than 4 percent.

The dollar soared to its largest single-day gain against the yen in nine years and rallied against the euro as traders responded to the less-than-expected rate cut. But U.S. Treasuries fell as investors poured into stocks.

The Fed's action, taken on an 8-2 vote of its policy committee, was part of an intense effort by the central bank to avert a deep recession and financial market meltdown. The move took benchmark overnight rates down to 2.25 percent, the lowest since February 2005.

While further interest rate cuts appear likely in the face of continued weakness in the economy -- reflected for example in yesterday's data on housing starts -- the Fed's concern about inflation cannot be entirely dismissed after US February core producer prices surprised on the upside. Bloomberg reports:

Prices paid to U.S. producers rose less than forecast in February, while wholesale costs excluding food and energy jumped by the most since November 2006.

The 0.3 percent increase followed a 1 percent gain in January, the Labor Department said today in Washington. Leaving aside food and fuel, so-called core expenses climbed 0.5 percent, more than double the gain economists anticipated.

At least the Fed has the luxury of flat consumer prices in February, a luxury that the Bank of England won't have when it next considers monetary policy. From Reuters:

Rocketing utility bills pushed inflation further above target in February, highlighting the dilemma facing the Bank of England as it grapples with slowing growth and rising price pressures.

The Office for National Statistics said consumer prices rose 0.7 percent last month, taking the annual rate to 2.5 percent, its highest since last May.

Indeed, some central banks are still in tightening mode, for example, China's. From Bloomberg yesterday:

China imposed price curbs on meat, eggs and cooking oil and ordered banks to set aside larger reserves to try to reduce inflation from an 11-year high.

The top planning agency said it will vet price increases after soybean oil climbed 58 percent and lamb rose 51 percent this month from a year earlier. The central bank ordered lenders to set aside 15 percent of deposits, the highest ratio in at least 20 years. The announcements were on their Web sites.