Fed Commits $800 Billion More to Unfreeze Lending (Update2)

2008-11-25 14:36:32.850 GMT

(Adds Fannie-Freddie bond trading and investor and trader

comments from seventh paragraph.)

By Scott Lanman and Dawn Kopecki

Nov. 25 (Bloomberg) -- The Federal Reserve took two new

steps to unfreeze credit for homebuyers, consumers and small

businesses, committing up to $800 billion.

The central bank will purchase as much as $600 billion in

debt issued or backed by government-chartered housing-finance

companies. It will also set up a $200 billion program to support

consumer and small-business loans, the Fed said in statements

today in Washington.

With today’s announcement, the central bank is starting to

use some of the unorthodox policy tools that Chairman Ben S.

Bernanke outlined as a Fed governor six years ago. Policy makers

are aiming to prevent a financial collapse and stamp out the

threat of deflation.

“They’re trying to put funds into the system, trying to

unfreeze these markets,” said William Poole, the former St.

Louis Fed president, in an interview with Bloomberg Television.

“Clearly, the Fed and the Treasury are beginning to take a large

amount of credit risk.”

The Fed will purchase up to $100 billion in direct debt of

Fannie Mae, Freddie Mac and the Federal Home Loan Banks and up to

$500 billion of mortgage-backed securities backed by Fannie,

Freddie and Ginnie Mae, the statement said.

Help for Housing

“This action is being taken to reduce the cost and increase

the availability of credit for the purchase of houses, which in

turn should support housing markets and foster improved

conditions in financial markets more generally,” the Fed said.

Fannie and Freddie bonds rallied. The yield premium on

Fannie Mae’s five-year debt over similar-maturity Treasuries

tumbled 21.5 basis points to 114.7 basis points as of 8:35 a.m.

in New York, according to data compiled by Bloomberg. A basis

point is 0.01 percentage point.

“The cheaper that they could issue their debt, the more

aggressively they should be able to buy mortgages in the

secondary market,” said Alan Bosworth, director of agency

trading at Vining Sparks in Memphis, Tennessee.

Separately, under the new Term Asset-Backed Securities Loan

Facility, the Fed will lend up to $200 billion on a non-recourse

basis to holders of AAA rated asset-backed securities backed by

“newly and recently originated” loans, such as for education,

automobiles, credit cards and loans guaranteed by the Small

Business Administration, the Fed said.

Commercial Paper

The ABS program is similar to the Fed’s effort to bring down

the cost of financing for commercial paper, the short-term debt

companies issue to finance payrolls and other expenses, because

it goes beyond banks.

“What the Fed has been trying to do is get a sense of what

works and what doesn’t work,” said Derrick Wulf, who helps

manage $70 billion in mostly fixed-income assets at Dwight Asset

Management Co. in Burlington, Vermont. “One of the things that

has worked is the commercial paper facility.”

Wulf added that “it can certainly improve credit conditions

for consumers.”

The Treasury will provide $20 billion of “credit

protection” to the Fed in the lending program, using funds from

the $700 billion financial-rescue package. The Treasury said in a

statement that the facility may expand over time and cover other

assets, such as commercial and private residential mortgage-

backed debt.

‘Continued Disruption’

On the ABS facility, the Fed is trying to avoid having

“continued disruption of these markets” that would limit

lending and “thereby contribute to further weakening of U.S.

economic activity,” the central bank said.

Under the new lending program, known as the TALF, the New

York Fed will auction a fixed amount of loans each month for a

one-year term. Assets will be held in a special-purpose vehicle

to be created by the Fed. The program will stop making new loans

on Dec. 31, 2009, unless the Fed Board of Governors extends it.

Lenders providing credit under the TALF “must have agreed

to comply with, or already be subject to,” executive-

compensation restrictions in the October bailout law, the

statement said.

The Fed will start buying the direct debt of government-

sponsored enterprises -- Fannie, Freddie and a dozen federal home

loan banks -- through primary dealers in government debt from

next week. The purchases of mortgage-backed securities will be

done through asset managers, and officials aim to begin the

effort by year-end.

Purchases of both types of debt “are expected to take place

over several quarters,” the Fed said.

Thank you.