[Marxism] US stocks plunge on federal Reserve rate cut announcement

[Greg McDonald <sabocat59@xxxxxxx>]

World Socialist Web Site www.wsws.org

WSWS : News & Analysis : North America
US stocks plunge on Federal Reserve rate cut announcement
By Barry Grey
12 December 2007

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US stocks plummeted Tuesday after the Federal Reserve Board announced  
a quarter-point cut in short-term interest rates and indicated in an  
accompanying statement that it remained concerned over the potential  
for an inflationary surge.

The sharply negative reaction on Wall Street, which was looking for a  
half-point cut in interest rates and a statement clearly giving  
primacy to the risks of recession and a meltdown on financial markets  
above inflation concerns, is a measure of the near-panic gripping big  
investors and some of the largest banks in the US and Europe over the  
implosion of the US housing market and resulting crisis on credit  
markets.

Immediately after the Federal Reserve Board’s Federal Open Market  
Committee announced its decision, at 2:15 PM Eastern Standard Time,  
all of the major New York stock indexes began to plunge. By the end  
of trading, the Dow Jones Industrial Average had fallen 294.26  
points, a drop of 2.1 percent. The Nasdaq Composite Index declined by  
66.60 points, down 2.5 percent, and the Standard & Poor’s 500 Index  
fell 38.31 points, a 2.5 percent decline.

The sharp fall on the markets came despite the fact that Tuesday’s  
rate cuts marked the third consecutive reduction in interest rates by  
the Fed since the credit crisis erupted last August. Since then, the  
US central bank has slashed rates by a full point, the greatest  
easing of borrowing costs since the recession of 2001.

The Fed cut its target federal funds rate, the overnight rate at  
which banks lend money to one another, from 4.5 percent to 4.25  
percent. At the same time, it reduced the so-called discount rate, at  
which the Fed directly lends money to banks, from 5.0 percent to 4.75  
percent.

These moves are aimed at cheapening the cost of loans and pumping  
liquidity into the credit markets. They come at a time when major  
banks and investment houses in both the US and Europe are reeling  
from massive losses resulting from the collapse of assets linked to  
US subprime home loans.

The depression in US home sales and prices and soaring mortgage  
delinquencies and foreclosures of homes purchased with high-interest  
subprime loans have undermined the stability of banking giants that  
leveraged such loans into a multi-trillion-dollar edifice of highly  
profitable securities that were sold to banks and other investors  
around the world.

According to an article in Monday’s Wall Street Journal, “Over the  
past decade, Wall Street built a market for more than $2 trillion in  
securities sold globally and backed by loans to US homeowners.” That  
market has come crashing down—as it was destined to do, since it was  
built on the most speculative and unstable of foundations.

Facing huge losses from the collapse of these investments, and unable  
to determine the real value of exotic securities derived from  
dividing up, bundling, repackaging and reselling loans—many to  
subprime borrowers with shaky credit—to other investors and financial  
institutions, the banks have sharply cut back their lending to  
consumers and businesses. Lending is down, its cost is rising and the  
result is a credit crunch that is driving the US economy into  
recession, with dire consequences for the global economy.

This crisis is an expression of the increasingly parasitic and  
speculative character of American and world capitalism. It effects  
are rapidly spreading throughout the US economy, with job growth  
slowing, consumer spending falling off, US corporate profits tending  
downward and rising delinquencies on all forms of consumer credit— 
from home loans to auto loans and credit card payments.

Most analysts are now forecasting minimal or negative economic growth  
in the US for the current quarter, and some are predicting the  
economy will fall into recession in 2008. On Monday, Morgan Stanley  
became the first major Wall Street bank to predict a US recession  
next year.

Last week, the Bush administration announced a scheme for mortgage  
lenders, servicers and investors to voluntarily agree to freeze  
interest rates for a small minority of the estimated 2 million  
subprime borrowers whose adjustable-rate loans are scheduled to reset  
sharply higher over the next 18 months.

The plan, which will do little to relieve the suffering of millions  
of Americans who fell victim to predatory lending practices during  
the housing boom, is above all aimed at buying time for the big banks  
and mortgage companies and reassuring financial markets that a full- 
scale collapse will be averted. There is, however, little likelihood  
that it will prevent a deepening of the credit crunch and stave off  
an economic downturn that could prove severe and protracted.

The Wall Street Journal carried a front-page article Monday headlined  
“US Mortgage Crisis Rivals S&L Meltdown,” referring to the US savings  
and loans collapse of the late 1980s and early 1990s that ended with  
a multi-billion-dollar government bailout of Wall Street. The article  
had a sub-headline that read: “Toll of Economic Shocks May Linger for  
Years; A Global Credit Crunch.”

The Journal wrote that an examination of the current crisis “shows  
that it is comparable to some of the biggest financial disasters of  
the past half-century.”

Developments this week appear to vindicate that prognosis. The Zurich- 
based banking giant UBS, the world’s largest provider of banking  
services to the wealthy, announced Monday that it was writing down  
the value of its subprime assets by an additional $10 billion. The  
bank had already taken a $4.4 billion third-quarter write-down. It  
issued a statement that the “ultimate value of our subprime  
holdings... remains unknowable.”

UBS said it would post a loss for the fourth quarter and possibly for  
the year as a whole. It further said it had received an $11.5 billion  
investment from a fund owned by Singapore and an unnamed Middle  
Eastern investor, equivalent to selling as much as 12.4 percent of  
the company in return for a cash bailout.

With the announcement, UBS became the biggest casualty outside of the  
US of the American housing slump, but banks in other countries, such  
as Britain and Germany, have also been hit by the fallout from the US  
housing and credit crisis.

“That UBS, long known as a conservative lender, could take such a  
financial hit suggests that the wave of industry write-downs, which  
so far total about $50 billion, may be far from over,” wrote the Wall  
Street Journal.

Just two weeks ago, Citigroup, the largest US bank, agreed to sell a  
$7.5 billion stake, 4.9 percent of the company, to the Abu Dhabi  
Investment Authority in order to shore up its capital base, after  
announcing write-downs of $8 billion to $11 billion related to bad  
subprime investments. The bank had already disclosed $5.9 billion in  
write-downs.

Merrill Lynch, which has $20.9 billion in remaining exposure to  
subprime-linked investments, may also need to take a further write- 
down, as could Morgan Stanley, according to analysts. Merrill already  
disclosed a third quarter write-down of $7.9 billion. Morgan Stanley  
has announced subprime-linked losses of $3.7 billion in the first two  
months of the fourth quarter, which could increase, based on its $6  
billion in remaining subprime exposure.

Washington Mutual, the largest US savings and loan bank, this week  
widened its expected fourth quarter loss to $1.5-$1.6 billion due to  
deteriorating credit and mortgage markets. The S&L said it would  
abandon subprime lending entirely, close 190 of its 336 home loan  
center and sales offices as well as 9 loan and processing call  
centers, and cut 3,150 jobs. It also announced it would cut its  
dividend 73 percent to 15 cents a share.

Bank of America announced it was liquidating a money market fund for  
institutional investors that was worth $40 billion only a few months  
ago but now has only some $12 billion in assets. The bank said the  
losses were related to the subprime mortgage crisis.

Meanwhile, Fannie Mae, the US government-sponsored mortgage company,  
predicted house prices would continue to fall for two or three more  
years, with no normalization until 2010.

Wall Street is clamoring for a bailout by the Fed, in the form of  
drastic interest rate cuts, with scant concern for the medium- and  
longer-term implications for the status of the dollar and the  
position of American capitalism in the global economy. The Fed is  
attempting to balance the threat of a US banking collapse with the  
dangers arising from soaring energy, food and commodity prices and  
the relentless fall of the dollar on world currency markets.

The dollar has already lost a quarter of its value against all other  
currencies since 2002 and 40 percent against the euro, and further  
interest rate cuts can only push the US currency lower. The position  
of the dollar, which has been further undermined by the current US  
housing and credit crisis, is a barometer of the declining relative  
strength of American capitalism on the world market.

Gerard Lyons, chief economist at Standard Chartered in London,  
published a column in the December 7 Financial Times entitled “The  
Middle East Must Loosen its Ties to the Dollar.” In the article, he  
recommended that the oil-rich Persian Gulf regimes sharply revalue  
their currencies and cease pegging them to the dollar. He wrote: “The  
region should shift from the dollar peg to managing exchange rates  
against a basket of currencies of the countries with which they  
trade. The dollar would form a big part of this basket, but so too  
would the euro and Asian currencies. Over time, the dollar’s weight  
would fall.”

Commenting Tuesday on the bailout of UBS by Singapore and a Middle  
East investor, he said it was a “reflection of the current fragile  
state of the financial sector in the West” and “a further sign of how  
the balance of the world economy is changing.”




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