Fed pumps $38bn into markets

Fed pumps $38bn into markets
By Krishna Guha in Washington and Michael Mackenzie in New York and Gillian Tett in London
Copyright The Financial Times Limited 2007
Published: August 10 2007 19:10 | Last updated: August 10 2007 19:10


Equity markets fluctuated violently on Friday – with London and continental Europe experiencing their worst one-day falls in four years and Japan tumbling sharply – as the US Federal Reserve and other central banks scrambled to avert a liquidity crunch.

The Fed promised to provide whatever funding was needed to ensure that banks are able to continue lending to each other at its desired interest rate of 5.25 per cent and pumped $38bn into the system in three separate open market operations.

The interbank market has come under extreme strain in recent days, with European banks unable to secure financing for investment vehicles holding US subprime mortgages from their regular investors at the forefront of a scramble for dollar funds.

Friday’s action by the Fed marked the abandonment of its “business as usual” stance. It told dealers it would re-enter the market as often as necessary, and – in a highly unusual move – accepted high-quality mortgage-backed securities as collateral for the entire $38bn of funds. This amounts to the most extensive liquidity support operation undertaken by the US central bank since the 9/11 terrorist attacks and follows similar steps by the European Central Bank and Japanese central bank in the past two days. Among the main central banks, only the Bank of England has declined to inject extra cash into the markets. The emergency moves followed signs of increased market nervousness about banks worldwide, with bank stocks tumbling and interbank lending rates rising amid a rush to amass reserves.

Bruce Kasman, chief economist at JPMorgan, said: “The stress generated by a repricing of credit risk is testing the resiliency of the global financial system.”

John Authers on the stock market liquidity crisis
Across markets, investors tried to rein in their exposure to risky and illiquid assets.

By the close, repeated intervention had pushed the effective Fed funds rate below its 5.25 per cent target, after spiking to 6 per cent early in the day. This appeared to calm US equities: after a turbulent day, the S&P 500 ended in positive territory while the Dow Jones Industrial Average closed down 0.2 per cent.

The FTSE 100 suffered its worst fall for more than four years, dropping 3.7 per cent to 6,038.3. It has been the only leading stock index so far to officially “correct” – having fallen more than 10 per cent from its June peak.

The FTSE Eurofirst also suffered its worst day for four years, falling 3.04 per cent. In Asia, the Nikkei 225 fell 2.4 per cent.

Additional reporting by Robert Orr, Neil Dennis and Paul J Davies in London