Rate Cuts: A Band-Aid or a Cure?

Updated from 1:10 p.m. EDT

The federal government has pulled out all the stops to stanch the bloodletting on Wall Street of late, but a growing chorus is saying the Federal Reserve needs to go back to a staple in its playbook: a good, old-fashioned rate cut.

Global credit markets remain frozen, despite heavy handed moves like the $700 billion financial bailout plan enacted by Congress last week and several other moves by the Fed to inject liquidity into the markets, including plans to begin buying commercial paper and increasing the size of a program that allows banks to borrow Treasuries in exchange for less liquid securities and other collateral.

Fed Chairman Ben Bernanke has thus far resisted a growing call for lowering the fed funds rate, in favor of the central bank's current approach, which he believes will be easier on inflation.

"Paying interest on reserves should allow us to better control the federal funds rate, as banks are unlikely to lend overnight balances at a rate lower than they can receive from the Fed," Bernanke said in prepared remarks to the National Association for Business Economics in Washington, D.C. "[T]hus, the payment of interest on reserves should set a floor for the funds rate over the day."

Still, Bernanke did not say a target cut was out of the question, noting that "[s]o long as financial conditions warrant, we will continue to look for ways to reduce funding pressures in key markets."

The pressure to cut, however, is mounting. The futures market had been predicting the Fed will slash rates before the end of October, perhaps at its meeting on Oct. 29. Such a move would further help strains in the credit market, and would follow a cut from Australia's central bank, which spurred hopes that the U.S. and Europe would follow its lead.

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