Hoping to control a worsening credit crisis, the central bank approved an immediate quarter-percentage point cut in its emergency lending rate to financial institutions to 3.25 percent and became a lender of last resort for Wall Street investment houses.
“These steps will provide financial institutions with greater assurance of access to funds,” Fed chief Ben Bernanke told reporters in a brief conference call Sunday evening.
The Fed acted after JPMorgan Chase & Co. agreed to buy rival brokerage firm Bear Stearns Cos. for just $236.2 million. Just two days earlier, the Fed had raced to provide emergency financing to cash-strapped Bear Stearns through JPMorgan.
A buyout of Bear Stearns was certainly more appealing than the alternative: letting the investment bank collapse and causing huge losses for anyone linked to it. But the sale of Bear Stearns — and the fact that JPMorgan valued the fifth-largest Wall Street investment bank at a paltry $2.03 a share after closing at around $30 a share on Friday — stirred fear among investors worldwide about other banks’ exposure to the troubled credit markets.
Only a year ago, Bear’s shares sold for $170, the New York Times reported.
“That is just unbelievable,” said investing consultant Scott Fullman. “It implies there is more risk in here than has been apparent.”
Last week, the Fed announced other unconventional maneuvers to thaw out a credit market in danger of freezing shut. Its actions come as fears have spread that other financial houses could also be on shaky ground.
“It seems as if Bernanke & Co. are pulling out all the stops to avoid a serious financial market meltdown,” Richard Yamarone, an economist at Argus Research, told The Associated Press on Sunday.
The Fed said in a statement that the steps are “designed to bolster market liquidity and promote orderly market functioning … essential for the promotion of economic growth.”
On Tuesday, the Fed is expected to approve another big cut to a key interest rate that affects millions of people and businesses. That key rate is now at 3 percent and is expected to be cut by at least three-quarters of a percentage point.
“This is going to get worse the longer the market prolongs the inevitable,” Joe Saluzzi, co-manager of trading at Themis Trading in Chatham, N.J., told Reuters. “With all these discount rate cuts, it seems like the Fed is running out of silver bullets. Maybe they have to come up with something bigger.”
The Fed’s new lending facility — described as a cousin to its emergency lending “discount window” for banks — is geared to give major investment houses a source of short-term cash on a regular basis — if they need it.
That’s important because those big investment houses have key roles in the financial system, said Mark Zandi, chief economist at Moody’s Economy.com. If one fails or is having difficulty it could put the whole financial system in jeopardy. These big investment houses have complex relationships with many players in the system, including hedge funds, commercial banks and others.
The lending facility will be in place for at least six months and “may be extended as conditions warrant,” the Fed said. The interest rate will be 3.25 percent and a range of collateral — including
investment-grade mortgage backed securities — will be accepted to back the overnight loans.
It marks the first such emergency move since the Great Depression.
President Bush acknowledged Monday that the economy is going through “challenging times” and said he supported actions taken by the Federal Reserve to restore order to roiled financial markets.
Speaking to reporters after a meeting with top economic advisers, Bush said his message to the country and the world is that “the United States is on top of the situation.”
On Monday, skittish investors drove stocks down by more than 180 points in the first few minutes of trading. The Dow Jones industrial average rebounded then fell sharply again by mid-day. Trading on world markets also was down sharply.
The dollar sank to a record low against the euro and hit a 12 1/2 year low against the yen, while gold prices surged to another record high.