Fed acts to entice more bank loans

Agency is putting up $40 billion as part of multination drive

December 13, 2007|By William Neikirk | William Neikirk,CHICAGO TRIBUNE

WASHINGTON -- In a joint move with European central banks to ease the grip of a dangerous credit crunch, the Federal Reserve unveiled a new plan yesterday to pump billions of dollars into tightfisted U.S. banks so they will be more willing to lend to people, businesses and each other.

Sharply criticized by Wall Street on Tuesday for a modest interest rate cut that critics labeled as too timid, the nation's central bank announced the biggest concentrated injection of funds into the economy since the Sept. 11 terrorist attacks.

In doing so, it signaled its concern that the financial crisis could spawn a deep recession.

Economists and market specialists say policymakers are trying to reassure bankers that the Federal Reserve will stand firm as the lenders of last resort.

The coordinated action is being led by the Fed, which will lend $40 billion this month and an unspecified amount in January.

Fed officials said the temporary auctions could be extended and could become a permanent monetary feature. Still, in relation to the credit problem, the amount of money appeared modest.

The European Central Bank, the Bank of England, the Swiss National Bank and the Bank of Canada will lend $50.2 billion this month and next to address credit problems in Europe.

Wall Street staged a modest comeback yesterday, with the Dow Jones industrial average up 41 points. But there was still criticism that the plan was not announced a day earlier along with the central bank's interest-rate reduction of a quarter of a percentage point on banks' overnight loans to each other as well as loans from the Fed.

Traders were kept in the dark about the impending action even as the market plunged 294 points Tuesday. The Fed said it wanted to announce its action together with Europe's central banks and had to wait a day because of the time difference, but that explanation did not quiet critics.

The main question is whether the plan will work. Some analysts said they expected a modest improvement in the credit crisis, especially if bank lending picks up. The biggest concern is that many small businesses will be starved for cash and will be forced to retrench and lay off workers.

The Federal Reserve's innovative auction of $40 billion in loans aims to make it easier for banks to borrow. How they respond will be critical.

"The Fed has not only opened its vault doors to the banking industry, they are now trucking it to their places of business," said Scott Anderson, an economist at Wells Fargo Bank. "If this doesn't get the banks excited about lending again, nothing will, and the battle to forestall recession is already lost."

The aim of the action is to inject more liquidity, or funds available for lending, into a banking system that has been reeling from the housing-induced credit crunch.

Commercial banks can now borrow directly from the Federal Reserve through its discount window. The Fed has cut its discount rate several times in recent months to induce banks to use it, but it has been disappointed at the response.

Many banks are reluctant to borrow from the Fed because the discount rate has long been viewed as a "penalty rate" that carries a stigma for a borrowing bank and because their names usually become public knowledge.

The new "temporary auction facility," as it will be called, would seek to avoid this problem. The Fed said it would keep the names of borrowers secret. In addition, the interest rate on these loans would be determined competitively.

William Neikirk writes for the Chicago Tribune. The New York Times contributed to this article.

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