The US Federal Reserve cut its benchmark interest rate by 0.75 points to 2.25 per cent on Tuesday, the latest of a series of dramatic attempts to boost the sagging US economy and temper volatility in global financial markets.
"Recent information indicates that the outlook for economic activity has weakened further," the Fed said in a statement explaining its decision. "Growth in consumer spending has slowed and labour markets have softened."
The US central bank has now lowered the federal funds by a total of two percent since the beginning of the year. Some analysts had predicted the Fed might cut interest rates by as much as one percent Tuesday.
The Federal Open Market Committee voted 8-2 in favour of the rate cut. Two members "preferred less aggressive action," the Fed said.
The Fed also slashed its discount lending rate to banks by 0.75 points to 2.5 percent, after already cutting it by 0.25 percent in a rare emergency meeting Sunday. The Fed over the weekend also opened up this special avenue for lending to struggling investment banks, instead of only to commercial banks as has been the case in the past.
The Fed has taken a series of unprecedented moves over the past week in a bid to shore up investment banks battered by an ongoing credit crisis caused by a record number of home foreclosures over the last half-year.
Banks have reported billions of dollars in writedowns as the value of mortgage-backed securities declined sharply. The Fed on Sunday sanctioned the sale of Bear Stearns to JPMorgan Chase for $240 million - a fraction of its value - to prevent the fifth- largest US investment bank from folding.
Bear Stearns' downfall caused a sharp drop in stock indices around the world Monday amid fears that other banks could be in a similar position.
Cautious relief was the market mood Tuesday after quarterly reports by Goldman Sachs and Lehman Brothers showed the two investment banks had been less affected by the credit crisis than anticipated. Both remained in the black despite a sharp drop in profits.
Financial stocks led a rally on Wall Street Tuesday as the quarterly reports and Fed rate cuts appeared to boost investors' confidence. Morgan Stanley will post its quarterly earnings Wednesday.
But the credit crisis has also filtered into other sectors of the US economy, and the Fed made clear that its moves over the week were designed to promote stronger growth as well as boost market liquidity.
The Fed acknowledged that inflation has been "elevated" but predicted that it would "moderate in coming quarters" as rising energy and other commodity prices began to level out.
"Downside risks to growth remain," the Fed said, adding that it would "act in a timely manner as needed to promote sustainable economic growth and price stability."
President George W. Bush has reiterated that the economy remained solid in the long run, and that the government had addressed slow growth and market volatility in the short-term.
"Our financial markets have also been subjected to stress," Bush said during a speech on trade in Florida Tuesday. "The Federal Reserve and the Treasury acted swiftly to promote stability in our financial markets at a crucial time. It was action that was necessary."
Growth slowed to an annualized 0.6 per cent in the last quarter of 2007, and many economists believe the US has since entered a new recession.