Fed Cuts Key Rate By 75 Basis Points, Less Than Expected

The Federal Reserve slashed interest rates by 75 basis points on Tuesday, trying to aggressively tackle economic and credit woes while watching out for inflation.

The central bank lowered the fed funds target rate to 2.25%, bringing total cuts since September to 3 percentage points. Investors cheered despite expectations for a 100-basis-point 13ove.

"The outlook for economic activity has weakened further" due to slower consumer spending, the deepening housing slump, a weaker jobs market and the credit contraction, the Fed said in its post-meeting statement Tuesday.

Yet the Fed also cast a wary eye at inflation, saying price pressures have been "elevated" and that inflation expectations have risen.

Policymakers Richard Fisher and Charles Plosser wanted a smaller rate cut, a sign that the Fed is under increasing pressure to keep prices in check.

"There's clearly concern about inflation and the falling dollar," said Nigel Gault, U.S. research director at Global Insight.

The dollar rose on the Fed's less-than-advertised rate cut after hitting new lows earlier in the week.

The weak greenback has pushed import prices and sent investors scrambling for higher returns in oil and other commodities, fueling higher energy and food prices.

Producer prices rose 0.3% in February, the Labor Department said Tuesday, in line with forecasts. But core wholesale prices, which exclude food and energy, rose 0.5%, the most in more than a year.

Stocks initially pared gains after the Fed news but quickly resumed their ascent. The Dow jumped 3.5% while the Nasdaq and the S&P 500 shot up 4.2%

Financial shares rebounded Tuesday on better-than-expected earnings from Goldman Sachs GS and Lehman Bros. leh, which had denied cash-crunch rumors. Goldman jumped 16% and Lehman 46%.

The 10-year Treasury yield rose 17 basis points to 3.47%.

Treasury Secretary Henry Paulson said Tuesday the economy has "turned down sharply," the closest the administration has come to saying the U.S. is in a recession.

Growth slowed to an annual rate of 0.6% in the fourth quarter, the weakest in five years, and recent economic data have pointed lower.

February housing starts fell 0.6% to an annual rate of 1.065 million units, the Commerce Department said. But single-family starts and overall building permits sank to their lowest levels since 1991.

Housing holds the key to restoring the health of the economy and the financial sector, analysts say. But Fed rate cuts have done little to make mortgage credit cheaper and more available.

"Financial markets remain under considerable stress, and the tightening of credit conditions and the deepening of the housing contraction are likely to weigh on economic growth over the next few quarters," the Fed said.

It added that "downside risks to growth remain," suggesting more rate cuts are coming.

"The Fed is taking steps in the right direction but it would be premature to say that this is over," said John Miller, chief investment officer at Nuveen Investments.

In addition to rate cuts, the central bank has introduced auctions to supply banks with hundreds of billions of dollars in cash to ease liquidity fears. Last week it said it would start swapping Treasuries for banks' illiquid mortgage securities.

On Sunday, the Fed pushed JPMorgan Chase into buying investment banking giant Bear Stearns, which collapsed under subprime debt. The Fed also took the risk on $30 billion of Bear assets.

Investment banks also can now seek loans directly from the central bank for the first time in decades.

The Fed cut its discount rate -- the rate it charges banks for loans -- by a quarter-point 19unday and three-quarters Tuesday, to 2.5%.

"Today's policy action, combined with those taken earlier, including measures to foster market liquidity, should help to promote moderate growth over time," the Fed said.

Yet analysts said it may take more than rate cuts and auctions to encourage banks to lend more.

"If banks don't want to lend it doesn't matter," Gault said, who nevertheless sees the Fed cutting rates to 1.5%. "Ultimately we may eventually need a government bailout of the housing market."