A Premature Celebration?

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The New York Sun

“Don’t fight the Fed” has long been a profitable strategy for stock market speculators. Following this maxim on August 17, 2007, a week after the Federal Reserve injected a massive dose of liquidity to contain the subprime mortgage problem, would have produced a tidy profit. The Dow-Jones Industrial Average has risen by about 5% since then. But those who think this Wall Street aphorism also signals the end of the crisis that began last summer would do well to revisit the history of the Great Crash. The Federal Reserve will provide only a temporary reprieve if mortgage credits are fundamentally unsound.

The stock market collapse in October 1929 marked the end of prosperity and the beginning of a depression. Most people do not realize that the Federal Reserve succeeded in controlling the damage — for a while. On October 30, 1929, a day after the 16 million share debacle, the Federal Reserve Bank of New York pumped reserves into the banking system to provide much needed cash to Wall Street investors. Two days later the Federal Reserve Bank lowered its lending rate — the discount rate — by a full percentage point, making it easier for banks to borrow reserves.

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