Fed auction of $30B sees interest drop

January 29, 2008 7:27:15 AM PST
The Federal Reserve, working to combat effects of a serious credit crisis, said Tuesday it had auctioned $30 billion in funds to commercial banks at an interest rate of 3.123 percent.It marked the fourth in a series of innovative auctions the Fed began last month in an effort to provide cash-strapped banks with extra reserves. The Fed's hope is that the increased resources will keep banks lending and prevent a severe credit squeeze from pushing the country into a recession.

The latest auction results indicated that the Fed's program is having success. The 3.123 percent interest rate for the $30 billion in short-term loans marked the lowest rate of any of the four actions. The previous auction resulted in a rate of 3.95 percent and the first two saw rates at 4.65 percent and 4.67 percent.

Bids for the current auction were received on Monday. The sharp drop in rates had been expected. Analysts said it reflected the fact that the central bank cut a key interest rate last week by three-fourths of a percentage point, the biggest reduction in more than two decades.

That signaled that Federal Reserve Chairman Ben Bernanke and his colleagues intend to move aggressively in an effort to prevent a steep slide in housing and the severe credit crunch from pushing the country into a recession.

The Fed's rate cut last week represented the first emergency move between meetings since September 2001. Fed officials are meeting again Tuesday and Wednesday and financial markets are expecting that another rate cut, probably by a half-point, will be announced at the end of those discussions.

Bernanke has said that the current auction process will continue for as long as needed to make sure that banks have sufficient reserves. He said the auctions might become a permanent addition to the Fed's "tool box" of strategies it can employ when credit markets have seized up.

But he said before that occurs, the Fed would seek comments from the public on how the auctions should be designed so that they can be best used by financial institutions.

The Fed went to the auction process in December after it had had only limited success in encouraging banks to use its "discount window" where the Fed makes direct loans to commercial banks. Banks had been reluctant to use the discount window out of concern they would be perceived as having trouble raising money through other avenues.

The Fed on Friday will announce the schedule and amounts for upcoming auctions. The first two auctions in December made $20 billion in short-term loans available and the two January auctions each provided $30 billion in loans.

(Copyright 2008 by The Associated Press. All Rights Reserved.)