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Fed will fund short-term business loansFed will fund short-term business loansTuesday, October 7, 2008 By Jeannine Aversa, AP Economics Writer WASHINGTON The Federal Reserve announced Tuesday a radical plan to buy short-term debt in an effort to break through the credit clog that threatens the economy. The Federal Reserve, invoking Depression-era power under "unusual and exigent circumstances," will buy commercial paper, a short-term I.O.U. that companies issue to finance day-to-day operations, such as purchasing supplies or making payrolls. The $99.4 billion daily market for this crucial short-term financing has virtually dried up. Most investors have become too jittery to buy commercial paper for longer than a couple days. That has made it increasingly difficult and expensive for companies to raise money. Up to $1.3 trillion in commercial paper will be eligible to be bought in the program. But Federal Reserve staff members say they do not think they will need to buy nearly that much in order to significantly thaw the commercial paper market. They anticipate the program, which has been in the works for several weeks, will lead to much lower rates and credit availability in the key market. FIND MORE STORIES IN: United States Treasury Department - Federal Reserve Bank of New York - Depression-era Details, including when the Fed will first make purchases, are still being worked out, staff said in a call with reporters. The unstable situation has left many companies vulnerable. The notion under the plan is for the government to provide a "backstop" that would give companies a new place to get cash, the Fed said. The action makes the Fed a source of credit for nonfinancial businesses in addition to commercial banks and investment firms. WHAT THE FED SAYS: Read the press release The Fed says it is creating a new entity to buy three-month unsecured and asset-backed commercial paper directly from eligible companies. "The commercial paper market has been under considerable strain in recent weeks as money market mutual funds and other investors have become increasingly reluctant to buy commercial paper, especially longer-dated maturities. As the market for commercial paper shrank, the Fed said rates on the longer-term debt "increased significantly," making it more expensive for companies to borrow. The Treasury Department, which worked with the Fed on the program, says Tuesday's action is "necessary to prevent substantial disruptions to the financial markets and the economy." The Treasury will provide money to the Federal Reserve Bank of New York to support the program, the Fed said. It did not say how much. If a company's commercial paper is not backed by assets or other forms of security acceptable to the Fed, the company could pay an upfront fee, the central bank said. The Fed says it hopes this effort will jolt the commercial paper market back to life. "This facility should encourage investors to once again engage in term lending in the commercial paper market," the Fed said. That should eventually spur financial companies to lend to each other and to their customers, including consumers, the Fed said. The Fed said it plans to stop buying commercial paper on April 30, 2009, unless the Federal Reserve board agrees to extend the program. There was $1.61 trillion in outstanding commercial paper, seasonally adjusted, on the market as of last Wednesday, according to the most recent data from the Fed. That was down from $1.70 trillion in the previous week. Since the summer of 2007, the market has shrunk from more than $2.2 trillion. SOURCE :: Contributing: Barbara Hagenbaugh
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