Fed auction to be watched for signs of credit market distress

By Stephen Foley in New York
Monday, 25 February 2008

The Federal Reserve will today continue its unprecedented efforts to prop up the credit markets, in what is set to be one of its most closely watched auctions of new debt.

The Fed began offering cheap loans to the financial markets in December as part of a co-ordinated series of measures by international central banks aimed at easing the credit crisis, and it has now loaned more than $130bn to Wall Street firms at fortnightly auctions, far outstripping the $40bn it initially said it was willing to offer.

It is auctioning a further $30bn tranche of debt this morning at a minimum interest rate of 2.81 per cent, making it cheaper than the 3 per cent rate that banks typically lend to each other. The money will be due for repayment in 28 days.

The Fed is stepping in as lender of last resort because Wall Street institutions, fearful of losses and hoarding money to prop up their own battered balance sheets, have become notably more reluctant to lend to each other.

The Fed, along with the Bank of England and the European Central Bank, have expanded the sorts of investments that they accept as collateral for these short-term loans, making it easier for Wall Street banks to borrow and reducing the stigma of doing so. The Bank of England said in December it was going to make £10bn available in three-month loans, but that this money would be diverted from other lending operations.

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