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A recent article from Reuters states that “the U.S. Federal Reserve is expected to slash interest rates by as much as a whole percentage point at its policy meeting on Tuesday.” Currently this rate is at 3% and the cut would lower it down to 2%. This is yet another bold move by the federal reserve in an attempt to prevent a recession in the U.S. economy. Since September, “the Fed has cut overnight rates by 2.25 percentage points.”

If Bernanke goes ahead with this 1% cut that is rumored, he is not giving himself a whole lot of wiggle room for later. Once the rate is down to zero, he can’t exactly go into the negative numbers. If I were him I would have taken a more gradual step-down approach instead of these large cuts. Personally I believe that large cuts and hikes tend to scare the markets. People like to be able to predict the future. Remember when Greenspan had his usual .25% hike every meeting? The markets loved that. They knew exactly what was going to happen each time there was a meeting. There were not a whole lot of surprises. It seems like now every time there is a Fed meeting there is a large speculation over what is going to happen. I don’t think that this is a good thing for the health of the market.

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Consumers can feel the effects of Bernanke’s cuts though. I had a money market account with VirtualBank that was paying 4.65% no more than 6 months ago. Now it is paying only 3%. CD rates at the credit union that I work at have dropped steadily as well. If I remember, a CD was about 5.05% only about five months ago. Now I believe it is paying 3.65%. Every day I hear grumblings from the CD savers who rely on CD rates as a main source of their income. Many complain that if rates continue to drop they will not have the interest income that they need to sustain their lifestyle.

If this cut were to be 1% as predicted, it would be the “biggest rate cut since 1982.” If anyone remembers correctly, 1982 was a time of rampant inflation and economic uncertainty. Hopefully we will not end up in the same boat. According to the article, “the Fed is expected to announce its decision around 2:15 p.m. EDT.” This will be right in the middle of the trading day. I predict that the cut will go through as predicted. I also predict that the markets will be down tomorrow, as people are starting to lose faith that rate cuts are a viable solution to our current economic dilemma.

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Anyone who has taken a course in economics knows about the theory of normal and inferior goods. For those new to this theory, here is how it works. People tend to be drawn to consuming higher quality items in times of economic prosperity. Consumers have an abundance of money, and therefore have more money to spend on higher quality items. These items are known as normal goods. In times of economic recession, consumers shift their spending habits towards more cheaply priced items in order to  save money. These cheaper items are called inferior goods.

Food can be used as a great example to show the difference between normal and inferior goods. Suppose a person has a good job and are making a lot of money. They could buy normal goods like steak and seafood for dinner every night because they have the means to do so. Suddenly the economy takes a turn for the worse and they get laid off and are forced to take a minimum wage job to make ends meet for the time being. With a lower income they won’t have as much money to spend on normal goods such as steak and seafood. In order to conserve money they will switch to eating inferior goods like hamburger meat and hot dogs.

In the economy, companies that produce normal goods like steak and seafood will see their revenues decrease because less and less people can afford to purchase them. Companies that produce inferior goods like hamburger meat and hot dogs will see their revenues increase because now more people are forced to buy these products.

In times of recession, like we are currently reported to be heading into, companies producing inferior goods can stand to prosper from this economic environment. In honor of this current economic downturn, I am going to be reviewing some companies over the next few months that are generally considered to be producers of inferior goods. These companies could stand to gain in value while the rest of the market is dropping.

Financial Markets, Personal Finance, Stocks economics, inferior goods, normal goods, recession