Will the Fed have to monetize a massive amount of private sector debt?
*AP, by Jeannine Aversa, October 7, 2008
“Fed to Buy Massive Amounts of Short-Term Debt
The Federal Reserve announced Tuesday a radical plan to buy massive amounts of short-term debt in a dramatic effort to break through a credit clog that is imperiling the economy.
Invoking Depression-era emergency powers, the Fed will buy commercial paper, a short-term financing mechanism that many companies rely on to finance their day-to-day operations, such as purchasing supplies or making payrolls.
In more normal times, about $100 billion of these short-term IOUs were outstanding at any given time, sold by companies to buyers that included money market mutual funds, pension funds and other investors. But this market has virtually dried up as investors have become too jittery to buy paper for longer than overnight or a couple days.
That has made it increasingly difficult and expensive for companies to raise money to fund their operations. Commercial paper is a way of borrowing money for short periods, typically ranging from overnight to less than a week.
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 crucial source of credit for nonfinancial businesses in addition to commercial banks and investment firms.
The Fed’s action initially helped lift investors’ spirits, although concerns about the economy dampened their enthusiasm. The Dow Jones industrials — which gained about 145 points just after the open — fell nearly 40 points in late morning trading. Monday, a huge selloff put the Dow below 10,000 for the first time in four years.”
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