New Fed liquidity effort boosts confidence, for now

New Fed liquidity effort boosts confidence, for now

( AFP )- The latest Federal Reserve-led initiative to ease a global credit squeeze got a vote of confidence from financial markets Tuesday as analysts said it could help a gridlocked financial system.

The actions by the Fed and other central banks are expected to help banks and brokerages temporarily swap their mortgage-backed securities for Treasury debt and possibly unclog credit markets, say analysts.

The moves got a strong vote of confidence from financial markets, as Wall Street's blue-chip Dow industrials surged 3.55 percent in the biggest rally since 2002.

Brian Wesbury, economist at First Trust Portfolios, said the action was better than a rate cut because it was targeted at the most troubled financial institutions.

"By narrowly targeting the problems in the credit markets rather than broadly influencing the economy through additional steep rate cuts, the Fed has greatly improved its approach," Wesbury said.

"The troubled financial markets are like an athlete with the wind knocked out of him. Today's targeted Fed approach is like giving him smelling salts to get him back up, rather than the unnecessarily long-lasting effects of shooting him up with adrenaline."

Yet the long-term impact of the plan remained unclear, and many economists say financial markets still face ongoing stress.

"The good news is this will help brokers and banks; the bad news is it will do nothing to help the housing market, or stop the decline in house prices," said Barry Ritholtz, analyst at the research firm FusionIQ.

Simon Derrick at Bank of New York Mellon said the actions will at least buy the Fed some time and ease pressure to cut rates, which some say could be damaging in the long run by fueling inflation.

"The jury remains out as to whether this will prove sufficient to free up the liquidity freeze in the credit markets," Derrick said.

"More immediately, however, today's move will likely see a decline in the talk of an intra-meeting cut that had been circulating since late last week ... By acting today it would seem that the Fed may have allowed itself a little more leeway in the run-up to (the Fed policy meeting) March 18."

Among the initiatives announced by the Fed was a new auction program for commercial banks and brokerages, which will be able to swap thinly traded mortgage securities and other collateral for safer Treasury obligations.

It was the latest in a series of steps to help get credit flowing in the global financial system, which has been gridlocked by concerns about market turmoil linked to a collapse in US real estate-linked securities.

The squeeze had spread to various institutions that are imperiled by a frozen market for many types of securities, especially those backed by risky or subprime mortgages.

The Fed said it was offering 200 billion dollars in a new Term Securities Lending Facility auction, with term of 28 days instead of overnight under an existing program.

Auctions will be held on a weekly basis, beginning on March 27.

The Fed also said it has authorized increases in its existing temporary reciprocal currency arrangements or swap lines with the European Central Bank and the Swiss National Bank.

The effort "is intended to promote liquidity in the financing markets for Treasury and other collateral and thus to foster the functioning of financial markets more generally," the Fed said in a statement.

The Fed action is designed to get more funds to banks hit by the credit crunch and thus cautious about interbank loans. By coordinating with other global central banks, the move will help provide dollars to overseas banks.

The latest action expanded an initiative announced by the Fed in December to create a Term Auction Facility (TAF) that allows commercial banks to bid for loans without the stigma of using the Fed's discount rate.

Analysts said these moves could help get cash to institutions that need it.

"The Fed is now getting creative with solutions to the credit crunch," said Andrew Busch, analyst at BMO Capital Markets.

Busch said dealers "can now provide to the Fed the stuff that they don't want" such as federal agency mortgage-backed securities "for the stuff they want" such as US Treasuries.

Mary Ann Hurley at DA Davidson & Co. said it remains unclear if the new action will help.

"The Fed essentially is telling the banks we will take your unwanted, your orphan securities, and the idea is that this will prompt banks to unleash their lending," she said.

"But please note that the central bank is not buying outright the troubled securities and does not deal with constraints on banks balance sheets. This is a good first step -- but it is unclear if the increase in lending will occur."

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