For those that have been perusing my blog, you know that I am as bearish now as they come. But the extent of this cut is shocking, and the rationale is even more shocking. The reason we are where we are now was too much cheap money for too long. This caused a big bubble (actually, 2 bubbles) to burst. What's the prescription for this ailment? More cheap money, of course. There is nothing like a little over proof rum to make you forget you have a hangover.
Bernanke says that the real estate bust spreading is risking the health of the broader economy. The bust came from a bubble, which came from dropping interest rates. This most recent drop just may exacerbate it. Residential mortgage rates are tied to the 10 year note and commercial mortgage rates are tied to USD LIBOR. Both have decoupled from the Fed Funds rate, as Greenspan has attested.
So, now that you have dropped rates Mr. Fed, what happens when mortgage rates move up anyway? Much of the tightening is already happening because the liquidity in the market from securitization has dried up. No amount of loosening policy will alter that in the medium term.
Addendum: the 10 year T note yield is up, and as a result, the 5 year ARM has increased from last week. The housing market is a mess, not due to interest rates, but due to the fact that sloppy underwriting reigned supreme. People who got houses they can't afford will have to lose them for this to be over, period. Even the CEO of Hovnanian is guilty of taking advantage of sloppy underwriting to buy into the top of a bubble, then trying to borrow his way out of it - and he runs one of the largest homebuilders in the country!!! Mortgage rates can go down and we will still have a housing problem, for too many people got mortgages they simply cannot afford.