Banks Lower Prime to 9.5%, a 7-Year Low
The nation’s leading banks lowered their prime lending rate Tuesday to 9.5%, a seven-year low.
Morgan Guaranty Trust of New York led the way with an announcement early Tuesday, and it was quickly followed by nearly all major U.S. banks, including all of California’s biggest commercial banks.
The move came in response to the economy’s weak performance as well as the decline of interest rates on all types of borrowing by banks. Analysts said that lower lending rates could provide a boost for the domestic economy, which has been drifting at about a 2% annual growth rate since the end of last year.
The half-point decline had been predicted for several weeks by economists and follows a similar reduction just a month ago. The prime has been declining regularly since last September, when it was at 13%. It has not been in single digits since October, 1978, when it began climbing to a peak of more than 20% in late 1980.
Will ‘Stimulate Activity’
“The decline in interest rates will definitely stimulate activity in interest-sensitive sectors of the economy, and we hope it will be broad-based enough to turn it around to grow at a more healthy pace,” said Hal Nathan, vice president and financial economist at Wells Fargo Bank in San Francisco.
The prime, or base, rate is the benchmark used by banks to set borrowing costs for corporate customers. The most credit-worthy businesses pay less, while smaller companies pay a higher rate based on the estimated risk of the loan.
Consumer rates, while not usually tied to the prime, tend to follow its direction, although more slowly.
Nathan said that the first industry to feel the lower rates should be housing, which showed a 13.7% decrease in new construction in May. Reduced rates on mortgage and home-equity loans should spark an upsurge in home-buying, he predicted.
Adjustables Below 10%
Fixed-rate mortgages are pegged at just above 12%, while some banks are offering adjustable-rate notes at introductory rates below 10% for the first time since 1978.
The cost of other consumer credit, including auto and personal loans, also is expected to fall, although not as far or as fast as business rates.
“Consumer rates have already started to go down, but they tend to be the last ones to fall,” said Lawrence Chimerine, chairman and chief economist at Chase Econometrics. “Consumer loan demand is strong, but the rates will come down because of competition between financial institutions. Business loan demand remains pretty soft.”
Fed Easing Credit
The Federal Reserve Board has deliberately eased credit in order to give the economy a push after two sluggish quarters, economists said. The discount rate, which banks pay on borrowings from the Fed, is expected to fall to 7% from 7.5% later this week to bring it in line with other short-term rates, most analysts said.
The demand for business credit has been slack for several reasons, private and government economists said. Large companies have been able to borrow privately at favorable rates by issuing commercial paper, a form of corporate IOUs. Manufacturing is in the midst of a prolonged slump because of fierce foreign competition and a strong dollar, which makes American goods too expensive for overseas buyers. And uncertainty about tax reform plans now before Congress has prompted corporate managers to take a wait-and-see attitude toward major capital investment.
Economy Hasn’t Responded
Analysts disagree over whether the lower cost of funds will lead to the hoped-for economic upswing. Chimerine said interest rates have been relatively low and falling since last fall, but the economy has not responded. He said he expects it to show some life soon, however.
“Over the next few months we’ll see the economy growing a little more rapidly because of lower interest rates. We won’t see a boom because the dollar remains so strong. The economy has been essentially flat over the past few months, but we’ll see an improvement by the middle or end of the third quarter,” he said.
That sentiment was shared by a majority of economists interviewed, although one said the country is in a mild recession or about to enter one.
More Weakening Seen
“We feel the economy is weakening and will continue to weaken over the rest of the year,” said Charles Larson of the economic consulting firm of A. Gary Shilling & Co. in New York. “When all the data is collected, it may turn out that we are already in a recession.”
Opinion is divided over whether the prime has hit bottom for this year. But no one predicted that it would go below 9%, and most economists expressed belief that rates would inch back up as the economy gains momentum.
“I’d say 9.5% is as low as it will go,” said Karen Emmet, economist at the Wall Street bond trading firm of Carroll McEntee & McGinley. “I think it will go up in the third quarter, drifting back up the way it’s drifted down.”