Fed to buy short-term debt

UPDATED:

The Federal Reserve said Tuesday it will start buying short term debt notes from companies in its latest effort to loosen the credit logjam that has hobbled lending and threatens to plunge the country into a deep recession.

The central bank will tap its Depression-era emergency powers to buy more than $500 billion commercial paper — a crucial short-term funding mechanism many companies rely on for day-to-day operations — from money market mutual funds.

“The short-term debt markets have been under considerable strain in recent weeks as money market mutual funds and other investors have had difficulty selling assets to satisfy redemption requests,” according to a statement from the Fed.

The Fed’s new program, called the Money Market Investor Funding Facility, will be used to support a private-sector initiative designed to provide liquidity, or cash, to money market investors. The Fed plans to back purchases of short-term debt including certificates of deposit and commercial paper that expire in three months or less from money market mutual funds.

The funds are large buyers of commercial paper and CDs, which historically are considered safe investments. However, the credit crisis, which took a turn for the worse last month, has put money market mutual funds under pressure as skittish investors demand withdrawals.

The program will include purchasing some commercial paper that is not backed by assets. The Fed also will buy dollar-denominated certificates of deposit.

By purchasing commercial papers, the Fed hopes to improve conditions so banks and other financial institutions will be more inclined to lend to each other, and to consumers and businesses.

In London, the lending rates between banks in both the U.S. and Europe dropped to the lowest levels in a month Tuesday as credit markets continued to improve.

The rate on three-month loans in dollars known as the London Interbank Offered Rate, or Libor, has slumped 0.23 percentage points to 3.83 percent, the lowest since Sept. 26 and the first time it has dropped under 4.00 percent since Sept. 29.

Another rate, the European Interbank Offered Rate for three-month euro-denominated loans, has fallen 0.03 percentage points to 4.968 percent. That is the first time the euro rate has dipped below 5.00 percent since Sept. 18, when it shot higher after U.S. investment bank Lehman Brothers collapsed.

In other news, a new survey of financial professionals shows that government action over the past three weeks has stabilized the credit markets.

Sixty-nine percent of respondents said the Treasury’s purchase of preferred shares in U.S. financial institutions will improve corporate access to short-term credit, according to a survey of more than 1,000 attendees at the annual Conference of the Association for Financial Professionals (AFP) in Los Angeles.

Eighty-one percent of survey respondents said the Federal Reserve’s plan to purchase commercial paper and guarantee money market funds will help unclog the credit jam.

“While the economy appears to be shaken, credit looks to be stabilizing,” said AFP President and Chief Executive Jim Kaitz. “More than three weeks ago, we said that the most pressing issue for business is access to credit. Actions by policy makers have in recent days brought some measure of confidence back to the markets.”

Survey respondents indicate overwhelmingly — 97 percent — said the U.S. economy is in recession. Thirty-four percent said the recent turmoil in the credit markets precipitated the recession, while nearly 63 percent said the U.S. was already in recession prior to September’s events.

Wall Street was down again Tuesday as investors worry that companies’ forecasts for the fourth quarter and beyond signal little easing of the weakness gripping the economy. The Dow fell 231.77 points, or 2.50 percent, to 9,033.66. Broader indexes also slumped, as the Nasdaq composite index dropped 73.35 points, or 4.14 percent, to 1,696.68, while the Standard & Poor’s 500 index fell 30.35 points, or 3.08 percent, to 955.05.

This article is based in part on wire service reports.

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