The Fed Finally Cut Interest Rates – What Now?

After months of speculation and more than a little economic angst, the Federal Reserve Board finally grabbed hold of the monetary policy lever and gave it a pull. So what comes next?

Wall Street responded with a 103-point drop in the Dow Jones Industrial Average and the NASDAQ and S&P 500 followed suit on the red side of the ledger. But far more important is how consumers respond. And more to the point, how patient will they be to let monetary policy work its magic.

Economists call it impact lag, defined as the time it takes a monetary policy action to affect the economy.  And that can take as long as 18 months. With American consumers generally not known for their patience – be it in traffic, in front of the microwave or in a period of economic instability – the psychological effect of the rate cut will manifest itself well before the economic results are felt.

And therein lies the problem.

In this age of “vibenomics,” it will be Main Street, not Wall Street, that will need a little hand holding. Talk of an interest-rate cut has been roiling in the economic atmosphere for months, raising hopes that the long-sought “soft landing” was upon us and the economic turmoil of the past two years was behind us. So much was written and said about interest rates that the prospect of a rate cut has raised expectations of immediate economic salvation. But the Fed’s move is unlikely to result in any miraculous turn in the economy.

In our instant gratification society waiting for anything can build dramatic tension as well as frustration. And frustrated consumers are unlikely to become spending consumers as the holiday shopping season approaches.

How likely are consumers, still facing lingering inflation and modest wage growth and having been spoon-fed a steady diet of interest rate news, be patient and let monetary policy take its course? If you answered “not very many” give yourself a point.

The average consumer doesn’t know much about the Federal Reserve beyond its relationship to interest rates. It is pretty well understood that lowering interest rates makes borrowing cheaper throughout the economy, encouraging spending and investment. But that is more theoretical than practical at this point. To really feel the effect in their wallets and bank accounts, consumers will have to wait.

The anticipation surrounding when the Fed would cut rates and consumer impatience with detailed explanations of economic theory and monetary policy could create the perfect financial storm where confidence in the economy – already shaky – erodes even further, forcing policymakers to consider more radical solutions and politicians to promote impractical ideas.

Like small children on Christmas morning, American consumers have had visions of interest-rate fairies dancing in their heads and expect to see a vibrant, healthy economy all tied up with a bow waiting for them. If that doesn’t happen fast enough, it may end up being a rough several months.