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The Federal Reserve yesterday dropped the Discount Rate by .75 basis points, to 2.25%. That, in response over the weekend to the Bear Stearns implosion, and the on-going weakness in the American economy have a number of people up in arms recently.

With all the economists running around with little or no idea what to do about the situation, you can imagine what the person on the street is thinking at the moment. There's a whole laundry list of bad news going around right now with no end in sight.

• Rising gas and food prices
• Lowering interest rates on savings accounts
• The Subprime Bubble still bubbling along
• The 5th largest American Investment bank (Bear Stearns) all but folding because of a run on it's funds.
• Fears of inflation circling around (mainly because of the Rising gas and food prices)
• The Dollar, on life support against foreign currencies.
• Dropping investment in Treasury Bills by countries abroad (because of the weak dollar)
• The price of postage stamps going up
• Cats and dogs living in sin.

It'S The End of the World!

What I Worry About

As bad as things are getting, I'm not so worried about many of these things. Some of the things I'm up in arms about recently;

Fed Backing Bear Stearns $30 Billion Subprime Mortgages - As part of the bailout of Bear Stearns, the Federal Reserve guaranteed the huge amount of sub-prime mortgage loans that are a large part of the Bear lending portfolio. That bails out Bear, but puts the risks on the American people.

A Quick FED Lesson

The Federal Reserve, through it's lending of money to banks, makes billions of dollars per year in profit. Much of that money goes into operating the Fed itself, but any leftover money at the end of the year goes into the Treasury to off-set costs outside the Fed (normally covered by taxes).

This means that if the Fed is required to 'cover' the loans that go into default, that extra revenue won't be available. Which means that it will have to be replaced by regular taxes, taxes from you and I.

By the Fed covering the loans, the risk has been shifted from Bear Stearns, to the U.S. people instead.

Money going Out from the FED, but Not Getting Loaned Out - The FED can only lower the rate it loans money to banks on, it doesn't have any say on whether the banks then pass on that savings to the end recipient of the loans. In fact, that's not happening at the moment. One of the major problems I see is that the banks and lending institutions are actually increasing lending requirements for loans. While that isn't bad really (it keeps more sub-prime loans from being made to people that obviously can't qualify) it's causing a credit crunch that is only worsening the situation. If people and businesses can't get working capital, the gears of industry start to grind to a halt.

On-going Short-sightedness of Businesses - For years now, businesses have focused on the short-term goal of increasing revenue, at the expense of developing career paths for their employees. The thought has been 'why train someone that is only going to leave?'

This is causing a marked decrease in technical college graduates and in people that want to pursue highly technical careers. If there are no entry-level jobs, there is no way to gain experience to perform the higher paying careers later on.

Add to this, the on-going pushback against H-1b visas, and the United States is facing a shortage of talent and brains that is only going to accelerate, as older, skilled employees retire. The U.S. is losing (if it hasn't already lost) it's technological edge to up-and-coming countries willing to train and develop their workers. Maintaining our standard of living is going to be impossible in a few years, unless we either re-invent ourselves, or make a concerted effort to compete on the world markets again.

Increases in Energy Prices, and the Effects on the Environment - With fuel prices soaring (Delta airlines is talking about getting rid of a majority of their employees and cutting back on flights because of the HUGE increase in jet fuel, just as an example) there is a 'ripple-effect' going throughout the industry that is sucking huge amounts of money out of everyone's pockets. As energy costs increase, everything else ALSO increases (transportation costs, production costs, etc).

I see two things that could come out of this.

1. Stagflation - A stagnant economy with huge increases in the price of commodities, due to the on-going extra cost associated with gas and energy. If consumer spending goes down, while costs go up, it's not going to be pretty.
2. Environmental Damage - If the government and businesses take an aggressive approach to finding more sources of energy, there are going to be environmental impacts. As alternative sources of energy become cost effective (Shale-oil, use of 'dirty' coal, etc) the impact to the environment is going to be felt worldwide. As-is, we're not doing enough to reverse the damage we've ALREADY done, much less any additional damage.

All Right Chicken Little, the Sky IS Falling, So What?

Unfortunately, there's not a lot us little people can do on an individual basis to change any of this. Large banks are not going to listen to individuals, and the government is concerned with EVERYONE not just individual investors. It hurts, but it's the storm we're in.

What I Plan on Doing - Even with the economic incentive package from the government, I'm not betting things are going to be all beer and skittles anytime soon, so here's my list of To-Do's that I'm going to concentrate on.

• Increase the Emergency Fund (to at least 6 months)
• Put the Retirement contributions on hold (I can increase them by a huge amount later in the year if things start looking better)
• Pay down consumer credit card debt. (The less bills you have to pay, the farther your money goes).
• Work hard and keep the job secure (businesses are going to be looking to cut costs, and poor workers are the first to hit the streets).
• Don't Panic. Even at it's longest, this economic storm should only be a few years. I've weathered through similar in the past, and been less prepared. At least now the media has given lots of warning of things going bad.

Not to sound negative, this whole article is more a cautionary tale than a "The World is About to End" sermon. I think things are going to get worse before they get better, but they will get better.

Do you have any steps you're taking to get ready for weathering the economic storm?? We'd like to hear about them.

Other sources of interest

Fed Cuts Rate Again @ DebtFREE-Revolution

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