US Fed cuts discount rate to ease crunch

The US Federal Reserve, in an unscheduled announcement, cut its discount rate and said it is prepared to take further actions to "mitigate" damage to the economy from the rout in global credit markets, according to a report by Bloomberg. The central bank reduced the rate at which it makes direct loans to banks by 0.5 percentage point to 5.75%. Policy makers kept their benchmark federal funds rate target unchanged at 5.25%. It is the first reduction in borrowing costs between scheduled meetings of the Federal Open Market Committee since 2001 and Ben S. Bernanke's first as Fed chairman. "Financial market conditions have deteriorated, and tighter credit conditions and increased uncertainty have the potential to restrain economic growth going forward,'' the central bank's Federal Open Market Committee said in a statement released in Washington. "The downside risks have increased appreciably." In the statement, the committee said it is "prepared to act as needed to mitigate the adverse effects on the economy arising from disruptions in financial markets." FOLLOWING IS THE FOMC STATEMENT Financial market conditions have deteriorated, and tighter credit conditions and increased uncertainty have the potential to restrain economic growth going forward. In these circumstances, although recent data suggest that the economy has continued to expand at a moderate pace, the Federal Open Market Committee judges that the downside risks to growth have increased appreciably. The Committee is monitoring the situation and is prepared to act as needed to mitigate the adverse effects on the economy arising from the disruptions in financial markets.

Voting in favor of the policy announcement were: Ben S. Bernanke, Chairman; Timothy F. Geithner, Vice Chairman; Richard W. Fisher; Thomas M. Hoenig; Donald L. Kohn; Randall S. Kroszner; Frederic S. Mishkin; Michael H. Moskow; Eric Rosengren; and Kevin M. Warsh.

To promote the restoration of orderly conditions in financial markets, the Federal Reserve Board approved temporary changes to its primary credit discount window facility. The Board approved a 50 basis point reduction in the primary credit rate to 5-3/4 percent, to narrow the spread between the primary credit rate and the Federal Open Market Committee's target federal funds rate to 50 basis points. The Board is also announcing a change to the Reserve Banks' usual practices to allow the provision of term financing for as long as 30 days, renewable by the borrower. These changes will remain in place until the Federal Reserve determines that market liquidity has improved materially. These changes are designed to provide depositories with greater assurance about the cost and availability of funding. The Federal Reserve will continue to accept a broad range of collateral for discount window loans, including home mortgages and related assets. Existing collateral margins will be maintained. In taking this action, the Board approved the requests submitted by the Boards of Directors of the Federal Reserve Banks of New York and San Francisco. What is the Fed's discount window? The primary discount rate is one of the central bank's monetary policy tools and provides a borrowing safety valve for qualifying institutional borrowers. The primary discount rate is now 5.75%, 50bps above the target for the federal funds rate, which is the Fed's benchmark short-term interest rate. The discount window was restructured in early 2003 to lift discount rates above the federal funds rate and improve its operation as a policy tool and backup source of funds for banks. Discount rates are set regularly by the Fed's 12 regional branches under three separate programs: primary credit, secondary credit and seasonal credit. The move today was unanimously approved by the Fed board. Each is offered at a different rate, with primary credit usually extended only for very short periods of time and to borrowers in sound financial health. Financial institutions that don't qualify for primary credit can request access to secondary credit to meet short-term liquidity needs, or to tackle serious financial problems. The third category at the discount window is seasonal credit, and is aimed at relatively small institutions experiencing seasonal swings in borrowing needs, like banks in farm communities.