The Federal Reserve Board slashed a key interest rate half a point Wednesday, the second time this month the Fed has tried to bolster the faltering economy with a rate cut.
The move lowers the federal funds rate, the interest banks charge each other, from 6 percent to 5.5 percent.
"Consumer and business confidence has eroded further, exacerbated by rising energy costs that continue to drain consumer purchasing power and press on business profit margins," the Fed said in a statement.
The Fed hopes that reduced borrowing costs will spur business investment and consumer spending, in turn boosting economic growth, which according to Fed Chair Alan Greenspan is probably "very close to zero" in the current quarter.
Greenspan last week gave Congress a bleak assessment of current economic conditions, and he refused to rule out the possibility that there will be a recession, saying it would depend on whether the economy's "marked decline breaches consumer confidence."
The decline appears to have done just that. Consumer confidence did indeed fall sharply in January, driven down to its lowest level in four years by growing fears of a recession, the Conference Board reported Tuesday.
The extent of the economic slowdown was further underscored Wednesday by a report that the economy grew at an annual rate of just 1.4 percent in the fourth quarter, the weakest showing in more than five years.
The slowdown has also been documented in a spate of troubling economic data. Manufacturers are struggling, consumers are considerably less confident in the economy and companies are laying off thousands of workers in response to slackened demand.
But Will Rate Cuts Do the Trick?
The big question is whether Fed rate cuts will be enough to avert a recession, analysts said.
In coming months, economists predict, the funds rate will drop to 5 percent in a series of rate-cutting moves by May or June. Fed policy-makers could decide to push the funds rate even lower, depending on how the economy unfolds, economists said.
Economists said the Fed has a lot of flexibility in cutting rates because inflation remains tame, except for a burst of higher energy prices.
Wednesday's cut is likely to be followed by a similar cut in commercial banks' prime lending rate, standing now at 9 percent. The prime rate is the key benchmark for millions of loans, from home equity and unpaid credit card balances to short-term loans for small businesses.
The Associated Press contributed to this report