- Federal Reserve policy makers don't expect to know for days whether their Aug. 17 discount-rate reduction will succeed at calming markets, Fed watchers say.
Yields on three-month Treasury bills yesterday fell the most since the 1987 stock-market crash as money market funds dumped asset-backed commercial paper in favor of the shortest- maturity government debt. Fed officials, who said they would accept everything from home-equity finance to municipal bonds as collateral for loans, expect some disruptions because banks are more cautious about what collateral they themselves accept.
``What the Fed wants to do is buy time to sort these things out,'' said Lou Crandall, chief economist at Wrightson ICAP LLC in Jersey City, New Jersey.
Fed Chairman Ben S. Bernanke is trying to avoid an emergency cut to the benchmark lending rate between banks, focusing instead on trying to maintain liquidity in markets. Futures traders are betting he'll fail and that the credit crunch will force him to ease monetary policy for the first time since 2003.
``Financial market volatility, in and of itself, does not require a change in the target federal funds rate,'' Richmond Fed President Jeffrey Lacker said at the annual luncheon of the Risk Management Association of Charlotte. ``Interest rate policy needs to be guided by the outlook for real spending and inflation,'' and markets can change that assessment if they induce changes in growth or prices.
Fed Team
Bernanke and New York Fed President Timothy Geithner are listening to the concerns of senior Wall Street executives, and following markets closely. They are assisted by William Dudley, executive vice president at the New York Fed in charge of markets, and Brian Madigan, the Fed's director of the Division of Monetary Affairs. Dudley is a former Goldman Sachs Group Inc. economist.
``You're going to see liquidity return to normal,'' Treasury Secretary Henry Paulson said today in a CNBC interview in Washington. ``What Americans need to understand is these things take time.''
Politicians have started turning their attention to the Fed's role as the market upheaval continues. Senate Banking Committee Chairman Christopher Dodd, a Connecticut Democrat running for his party's presidential nomination, met with Bernanke and Treasury Secretary Henry Paulson today to discuss responses to ``ongoing turmoil'' in the markets.
`All of the Tools'
Dodd told reporters after the meeting that Bernanke agreed to use ``all of the tools at his disposal.'' Later, in response to a question, he said he didn't ask Bernanke to lower the federal funds rate. The Fed chairman didn't pledge any changes to that rate either, he added.
The senator hinted at dissatisfaction within the Fed about the response of banks to the discount-rate cut.
``Banks themselves could be a bit more forthcoming,'' he said in an interview. ``When I raised that issue -- I want to be careful and not put words in the Fed chairman's mouth at all -- but I have a general sense that he didn't totally disagree.''
Senate Budget Committee Chairman Kent Conrad yesterday called for the resignation of St. Louis Fed Bank President William Poole. Conrad, a North Dakota Democrat, said in a statement it was ``irresponsible'' for Poole to say in an Aug. 15 interview that only a ``calamity'' would justify a rate cut. Poole declined to comment, according to his spokesman, Joseph Elstner.
American capital markets continued to show signs of stress in the second day of trading since the Fed's Aug. 17 discount- rate reduction. Investors fled even money-market funds, considered among the safest instruments, on concern that the funds, which hold $2.5 trillion, have invested in risky collateralized debt obligations backed by subprime mortgages.
Delinquencies Climb
Subprime loans are those given to people with poor or spotty credit histories and have spurred an increase in mortgage delinquencies to the highest in more than five years.
Three-month T-bill yields slid to 3.09 percent yesterday from 3.75 percent at last week's close. They rose to 3.30 percent at 11:52 a.m. in New York today.
Fed officials today cut the rate at which Wall Street firms can borrow Treasury securities from the central bank in another effort to ease liquidity constraints. ``We are doing it to provide additional liquidity to the Treasury financing market,'' said Andrew Williams, a spokesman for the New York Fed.
The Fed on Aug. 17 lowered its discount rate -- what it charges banks for direct loans -- by 0.5 percentage point to 5.75 percent, in an effort to increase liquidity in longer-term loans and bonds.
Primary Dealers
More than half of the 21 primary government security dealers that trade with the Fed now expect the central bank to cut its target rate for by next month from the current level of 5.25 percent.
``It is so hard to forecast what the Fed is going to do,'' said Joe LaVorgna, chief U.S. economist at Deutsche Bank Securities Inc. in New York, adding that there may still be room to reduce the discount rate again. ``I just don't know if they have exhausted all possibilities yet.''
Fed officials still don't seem to be convinced that a system-wide failure is at hand. Commercial banks are profitable and as of the second quarter more than 97 percent of all residential real-estate loans were current on payment, according to Fed data. The Federal Open Market Committee is trying address the liquidity needs through alternative tools such as the discount window.
Liquidity Squeeze
Technically, banks could ease the liquidity squeeze in the commercial paper markets by accepting that as collateral and exchanging it at the discount window for a 30-day loan at 5.75 percent, which they pass on to clients. For now, Fed watchers say, banks and investors are suspicious about the quality of some securities, such as asset-backed securities involving real estate, which may not make the new discount rate all that useful.
Fed officials regard such re-pricing of risk as normal and it may take days for the financial markets to adjust.
``It is really more a crisis of confidence in terms of what people hold,'' LaVorgna said. ``The economy fundamentally is pretty sound.''
No comments:
Post a Comment