To no one’s surprise, the Fed cut the Fed Funds rate to near zero yesterday. It is surprising, however, that the markets rallied on what can only be rationally considered bad news. The Fed has admitted just how bad things are and now they are completely out of their traditional ammunition.
As reported in the Wall Street Journal,
In normal times, lower rates reduce the cost of borrowing for households, businesses and financial institutions, which spurs borrowing and economic activity. Those effects are being muted now, however, because many businesses and households are weighed down by heavy debts.
If you’d like to dive a little more into the subject of what the Fed can and can’t do at this point, and the chances that any of it might help, there’s a great summary at Econbrowser.
Of course, the stock markets are back down today following yesterday’s initial head fake rally. There is so much deleveraging (getting out of debt) that must occur that we should see huge amounts of selling into any rally that occurs for some time, eventually putting a damper on that rally.
Look at a chart of the Nikkei to see what has happened in Japan after every rally for the past 20 years.