The hope is that lower interest rates will encourage businesses and consumers to spend more, and reduce the burden of debt. Investors fear that the US recession will reduce company profits, and that shares have been too expensive, especially high-tech companies. An interest rate cut could help in two ways. First, if it helps the economy to recover, it should help profits recover in the long term. In the short-term, however, a fall in interest rates also makes shares more attractive as an investment compared to bonds, the other main financial investment.
Bonds pay a fixed rate of interest, so with lower interest rates they become more expensive.
But in recent weeks, stock markets have had a brief recovery, and the Fed intervention seems to be timed to encourage that trend. US households borrowed heavily during the economic boom, using their rising share prices as collateral. However, unlike in the UK, most US households have fixed, not variable rate mortgages, and so they only receive a reduction from lower interest rates when they remortgage. There are also many more shareholders in the US, whose wealth is directly linked to the rise and fall in share prices. That may explain why the Fed believes that preventing too sharp a fall in the level of stocks is the key to restoring consumer confidence in the United States.