Other questions? If not, let me just talk about the issue here. I was reluctant to call this meeting, both because of the holiday and because the Committee did express a preference on January 9 for not moving between regularly scheduled meetings and I accepted that judgment on January 9. However, I think there are times when events are just moving too fast for us to wait for the regular meeting. I know it is only a week away, but seven trading days is a long time in financial markets. As Bill described, over the holiday, global stock markets have been falling very sharply, both in Asia and in Europe. As he mentioned, even though the U.S. markets are closed, the S&P 500 was off about 60 points today, close to 5 percent. That makes the cumulative decline in the S&P 500 since our last FOMC meeting 16½ percent. Obviously, it is not our job to target stock values or to protect stock investors, but I think that this is a symptom of both sharply mounting concerns about the economy and increasing problems in credit markets.
On the economy, the data and the information that we can glean from financial markets reflect a growing belief that the United States is in for a deep and protracted recession. Moreover, as we saw from the global markets today, the concern is rising that that recession will have global consequences. Consequently, we saw, for example, an 8 percent drop today in the German stock market. The dollar rose today, reflecting I think increasing belief that other central banks will have to follow us in cutting rates, and oil prices are down to about $87, reflecting expectations of slowing global demand. So it is not necessarily a U.S.-only story.
On the financial side, as Bill noted, a lot of things are going on. The latest is the likely downgrade of one or more of the monoline insurers, which would cause banks and other financial institutions to have to mark down billions more of their holdings. I think there is a general sense—I certainly feel in talking to market participants—that it is not just subprime anymore and that there are real concerns about other kinds of consumer credit—credit cards, autos, and home equity loans—and that there is fear of housing prices falling enough that contagion will infect prime mortgage loans. There is building in the market a real dynamic of withdrawal from risk, withdrawal from normal credit extension, which I think is very worrisome.
Would a rate action today, before the start of trading tomorrow, be of help? I don’t know. In some sense it was a lucky break that today was a holiday because in the middle of the day we got a very good read on what the markets are doing tomorrow, and so we can get ahead of things as opposed to being forced, after a couple of disastrous days, to respond. Again, I don’t know if this would help, but I think that indicating that the Fed is on top of the situation and that we are proposing to address economic and credit risks aggressively would help. In any case, it would at least make clear that the Fed was in touch with the situation.
I think we have to take a meaningful action—something that will have an important effect. Therefore, I am proposing a cut of 75 basis points. I recognize that this is a very large change. I would not do that if I thought that the size of the cut was inconsistent with our medium-term macroeconomic objectives. Let me discuss that a few minutes.
As I said to some of you, on Friday I had a briefing from Dave Stockton and his team about their Greenbook forecast for next week’s meeting. They have not made an explicit recession call, but they do forecast very weak growth going forward. More important, in order to get that positive economic growth, they revised down their assumed path of the federal funds rate by 100 basis points—50 basis points next week and 50 basis points in March. That gives a cumulative decline in the staff’s fed funds assumption of 200 basis points since August, which is consistent both with the markets and with a 225 basis point decline in medium-term r*, which is an indicator of the neutral rate, as well as the optimal policy rate that they calculate. Importantly, of course, we have lowered the funds rate only 100 basis points so far, so I think at first approximation we are about 100 basis points behind the curve—something in that general area— in terms of the neutral rate, and that itself doesn’t even take into account what I believe at this point is a legitimate need for risk management.
With respect to risk management, these credit risks obviously have the potential to feed back into our financial system and to affect the economy going forward. I hope to be able to talk next week more about a simulation the staff is working on, which shows that a severe recession would create extraordinary credit losses for our financial institutions, with implications obviously for credit extension and for financial stability. It is just one indicator, but a paper by Carmen Reinhart and Ken Rogoff has been circulated in the past couple of days, which compares some indicators of our economy with other major financial crises and finds that we rank at the moment among the five largest financial crises in any industrial country since World War II. Given what their indicators show, they conclude that, if we have only a mild recession in the United States, it would be a very fortunate outcome. Now, I am not saying that this is necessarily evidence, but I am saying that there are risks and that a careful approach should allow for some easing with respect to risks. Governor Mishkin is not here. He is aware of this meeting, but he is on the slopes—I think in Idaho somewhere. He has made I think a case for being more aggressive initially, trying to address the problem, and then removing accommodation as the situation calms down. I think there is a case for doing that, given the fact that we have done 100 basis points and that we seem to have not really made a dent.
Now, of course, there is also the issue of inflation. Many of you have valid concerns about inflation. Let me just make a few comments on that. First, in the Greenbook, despite a 100 basis point drop in the rate assumption and the scenario that I take as being in some sense optimistic in that it avoids an outright recession, the preliminary Greenbook forecast for 2009 has total PCE inflation at 1.7 percent and core PCE inflation at 1.9 percent. This does not take into account any disinflationary effects that would arise if we did have an NBER recession or worse. Again, I note that we have, for example, effects working through oil prices, which the Greenbook doesn’t take into account directly. So I think, obviously, that we have to continue to watch inflation and inflation expectations carefully. It is very important to do so. But at this point we are facing, potentially, a broad-based crisis. We can no longer temporize. We have to address this crisis. We have to try to get it under control. If we can’t do that, then we are just going to lose control of the whole situation.
So that is my case. I think we really have no choice but to try to get ahead of this. A statement has been circulated. Those of you who wish to comment on the proposal—of course, you can. You may wish to comment on the statement as well. But let me just stop there and see what comments the Committee has. President Plosser?