Fed rate cut likely will increase CU lending

WASHINGTON (10/9/08)--The Federal Open Market Committee's (FOMC) unexpected rate cut Wednesday morning could have positive effects for the marketplace and credit unions, a Credit Union National Association (CUNA) economist told News Now.

His comments came after the FOMC yesterday slashed its target for the federal funds rate 50 basis points to 1.5% after it said evidence pointed to a weakening of economic activity and a reduction in inflationary pressures. In a related action, the Board of Governors unanimously approved a 50-basis-point decrease in the discount rate to 1.75%.

Mike Schenk, CUNA vice president for economics and statistics, said for credit unions, the cut is likely to mean more of the same.

"In an economic downturn, credit unions typically experience very fast savings growth and fairly slow loan growth. But the opposite has occurred in the current market--credit union lending is expanding faster than credit union savings," Schenk explained.

In the 12 months ending August, aggregate credit union savings increased 6.3%, while aggregate loans increased 7.5%, Schenk said.

The relatively fast growth in lending is likely a reflection that credit unions are stepping up and helping members--refinancing toxic mortgages obtained at other lenders and helping small businesses abandoned by other lenders. Credit unions are reporting double-digit 12-month growth in first mortgages and in member business loans, he added.

"With lower rates, more members will likely be turning to their credit union to address debt management issues," Schenk said.

More broadly, he said the rate cut will first provide direct, though not immediate, relief to millions of borrowers who have variable rate credit by lowering monthly payments on that debt.

"Second, it will make it easier for new borrowers to obtain credit and the cost of that credit will be lower than it was yesterday," he continued. "Third, it sends a clear signal that the Fed is very concerned about the current situation and is doing all that it can to soften the blow of the credit crisis. The global coordination of this move confirms that both the level of concern and the vigor of response is shared internationally--and this should serve to calm markets."

"Having said all this, it should be noted that one of the underlying factors contributing to the current crisis is that the average household simply has too much debt," Schenk added.

This suggests that the Fed cut will not pack the punch that it has in the past. Consumers are focused more on fixing their balance sheets, reducing debt and building rainy day funds, and are focused less on debt accumulation to support spending, according to Schenk.

Incoming economic data suggest that the pace of economic activity has slowed markedly in recent months, according to the FOMC. "Moreover, the intensification of financial market turmoil is likely to exert additional restraint on spending, partly by further reducing the ability of households and businesses to obtain credit," it said.

"Inflation has been high, but the committee believes that the decline in energy and other commodity prices and the weaker prospects for economic activity have reduced the upside risks to inflation," the committee said.

The FOMC said it will monitor economic and financial developments carefully and will act as needed to promote sustainable economic growth and price stability.

Voting for the FOMC monetary policy action were: Ben S. Bernanke, chairman; Timothy F. Geithner, vice chairman; Elizabeth A. Duke; Richard W. Fisher; Donald L. Kohn; Randall S. Kroszner; Sandra Pianalto; Charles I. Plosser; Gary H. Stern; and Kevin M. Warsh.

courtesy of cuna.org