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22 Jan, 2008 18:26

U.S. slashes rates in bid to stop recession

Global Stock markets are once again on the slide with trading in New York opening at new lows. The U.S. Federal Reserve slashed interest rates in the biggest rate cut in 23 years. This helped Russia's stock market to recover temporarily before falling bac

Russian export in danger

Experts fear that with the global economy teetering on the brink of recession, global demand for energy and other commodities – Russia’s major exports – will plummet.

Analyst Igor Prokhaev from Troika Dialog says the falls are likely to continue.

“Very sharp drops in developed markets will make fund managers reduce their risks in emerging markets. And Russia is the number one stock to sell because it’s very liquid,” Prokhaev said.

While Roland Nash from the Renaissance Capital investment bank says oil holds the key to Russia's future economic security.

“The likely impact on Russia is relatively limited because Russia is rather independent economically apart from one factor – the oil price. If the oil price falls, then that will have financial consequences for Russia,” he said.

But analyst Aleksandr Potavin from Atlanta Capital in Russia says that in the medium to long term Russia is well-equipped to ride out the storm.

“No Russian companies have invested in American mortgage businesses, so I don’t think we are expecting any big losses. And the high level of consumer spending in Russia will also support the performance of Russian companies,” Potavin said.

U.S. Treasury makes a move

In a surprise move on Tuesday, the U.S. Federal Reserve slashed the benchmark interest rate by 0.75%.

The hefty cut left the key federal funds rate, which governs overnight lending between banks, at 3.5%, its lowest level since 2005. It's the first time the Fed has agreed to an extraneous rate cut since the aftermath of September 11 in 2001.

Experts say the Fed Reserve should have taken these measures long ago but hesitated for fear of pushing up inflation.

After announcing the move, Treasury secretary Henry Paulson stressed that U.S. in a long-shot U.S. economy is healthy.

“The U.S. economy is resilient: the unemployment remains low, and job creation continues at a modest pace. The structure of our economy is sound and our long-term economic fundamentals are healthy. I have visited countries around the world and the more I see, the more I am sure that our workers are the most productive and innovative anywhere. But we need to do something now, because the short-term risks are clearly to the downside. The potential benefits of quick action to support our economy have become clear,” Paulson said.

But some market watchers, like Yaroslav Lissovolik from Deutsche Bank in Moscow, believe cutting interest rates will not solve the underlying problems in the financial markets.

“If we go back to the summer and the sub-prime mortgage crisis that we had and the credit squeeze, the [U.S.] Fed did the same thing back then, they cut interest rates by 50 basis points. Now that was thought of as a quick fix, and okay, it did lift the markets, it boosted them in the near term but it wasn't an overall fix for the problem. We could have the same problem here, it could be a quick fix but I don't think it's going to solve the overall problem,” Lissovolik told RT.

Others warn the credit crisis is far from over and may spread to the corporate bond sector – and that could have even bigger consequences for the global market.

Effect on Russia

The Russian stock market followed the trend of Asian and European markets on Tuesday morning.

Panicky investors feared a U.S. recession could derail global economic growth.

Just minutes after trading got underway the MICEX lost up to 8% and RTS was down by 3%, with more liquid blue chips among the main losers.

The situation changed dramatically after the U.S. federal reserve cut its benchmark interest rate by 75 basis points per cent.

RTS regained its level of 2,000 points on the news.

Experts say the lower interest rates calmed the market – but not for long.