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To: Jeff Jordan who wrote (350176)	12/3/2007 7:58:57 PM
From: Giordano Bruno	Read Replies (1) \| Respond to of 436258

1/4 point discount window??? Screw integrity, take the money. Fed Action Rekindles Discount Rate Cut Speculation The New York Fed’s announcement today that it would redeem $5 billion more in maturing Treasury bills has rekindled speculation the central bank is contemplating some sort of move to stimulate borrowing from its discount window, such as a cut in the rate charged on such loans. The Fed plans to cash in the bills rather than reinvest the proceeds in new issues this Thursday. It made a similar decision in August. This week’s move would bring the reduction in its “permanent” portfolio of securities to $15 billion. The Fed calibrates the size of its balance sheet to the volume of currency in circulation and commercial bank reserves. Together they make up the monetary base, the ultimate source of the Fed’s control over interest rates and credit creation. The decision to let the permanent portfolio shrink means it anticipates growth in other assets. A New York Fed official said the redemption would give it “greater flexibility in managing reserve levels if the open market desk decided to conduct more term repurchase agreements over year-end and/or if there were other unexpected additions to reserve levels, prompting the need to reduce the size of the permanent portfolio.” That language leaves open the possibility of anticipating increased loans through the discount window. The Fed’s balance sheet normally grows at this time of year due to holiday-related demand for cash. As the Fed puts more currency — a liability — into circulation, it must match that with increased assets to keep interest rates from climbing above target. Ray Stone, of Stone & McCarthy Research Associates, notes the Fed won’t need to shrink its balance sheet until January, when seasonal demand for currency shrinks again. The most plausible reason it would reduce its assets now is to make room for an increase in assets by some other means, such as increased loans through the discount window. It could also happen through increased “repo” loans to bond dealers for terms of more than a few days. The Fed normally lends directly to healthy banks through its discount window at a rate one percentage point above its target for the federal funds rate, charged on overnight loans between banks. In August, it cut that “penalty” to half a point to encourage banks to borrow more and use the funds to finance transactions in shunned securities such as mortgage-backed securities. But few banks took advantage of even the lower rate, because of the long-standing “stigma” associated with use of the discount window. Historically, banks only borrowed there as a last resort. A resumption of illiquidity and credit market stress has prompted calls for the Fed to further reduce the penalty, to a quarter point. Steve Cecchetti, an economist at Brandeis University and former New York Fed research director, says a better step would be to extend the term of discount loans to 90 days from the current 30 days. “This would allow banks to borrow from the Fed against collateral that other banks seem to be hesitant to take.” Lou Crandall, chief economist at Wrightson Associates, noted in a commentary that in August, the Fed explicitly tied the redemption to offset expected increases in discount window borrowing. “Today’s statement did not make any reference to the discount window, which may simply mean that the Fed does not want to pre-judge the upcoming debate about whether or not to narrow the spread between funds and the discount rate again.” Fed officials are considering a variety of steps to boost liquidity in markets, including action on the discount window; it’s unclear whether they are ready to take any. –Greg Ip Permalink \| Trackback URL: blogs.wsj.com Save & Share: Share on Facebook \| Del.icio.us \| Digg this \| Email This \| Print More related content Comments Report offensive comments to blogsadmin@wsj.com