Hmmm, not such a free market after all.

US Federal Reserve and European Central Bank pump an extra $82bn into banking system

Gary Duncan, Economics Editor

The US Federal Reserve and the European Central Bank united yesterday to open a new front in their battle to quell the persistent money market strains that are fuelling the global credit crunch.

The Fed and the ECB lined up with the Swiss National Bank (SNB) to mount a third phase of joint operations to curb the transatlantic credit squeeze endangering the world economy. The central banks said that they would again raise sharply, by as much as $82 billion (£42 billion), the amount of funds they were pumping into the US and European banking systems in their effort to rein in elevated market interest rates.

The latest concerted action by the central banks comes as the continuing hoarding of funds by institutions in Europe and America has kept interest rates for lending between commercial banks high – despite an easing of conditions in broader credit markets. Steep money market rates are aggravating the squeeze on lending to companies and households, jeopardising economic prospects.

Yesterday the Fed increased by half, to $150 billion, the value of its Term Auction Facility, a monthly operation set up in December that makes one-month loans to US banks against collateral including devalued mortgage-backed securities.
Fed reluctant to say how far it will go

Financial markets believed the Federal Reserve would signal an end to its campaign of rate cuts, but it may not.

Since March the Fed has offered US banks $50 billion in a funding auction under the facility every two weeks, but this will be lifted to $75 billion. The Fed is also increasing a currency swap deal with the ECB to $50 billion, from $30 billion, while a similar swap with the Swiss central bank will double in value to $12 billion. Both facilities will be kept in place until at least January.

The enhanced currency swap plan comes amid concerns by the Fed and the European central banks that European banks are exposed to a severe shortage of dollar funds, thus exacerbating stresses in dollar money markets.

The ECB said that it would raise the value of 28-day loans of dollar funds it offers to $25 billion each fortnight – up from irregular $10 billion to $15 billion amounts previously.

The Fed also widened the range of assets it was prepared to accept from US investment banks as backing for lending under another emergency scheme it created in March after the near-collapse of Bear Stearns. The Fed will now take AAA-rated asset-backed securities as collateral for these loans.

The Bank of England did not take part in the concerted action yesterday but did announce that it would increase the monthly funding cushion it provides to Britain’s banks under its regular monthly money market operations. The Bank said that from May 8 it would raise the ceiling on the reserves that UK banks can hold with it to £2.5 billion or 5 per cent of “eligible liabilities” of each bank, whichever was the greater.

The ceiling had previously been set at £1 billion, or 2 per cent.

Original article posted here.