Magazine article Economic Trends

New Policy Moves and the Term Asset-Backed Securities Loan Facility

Magazine article Economic Trends

New Policy Moves and the Term Asset-Backed Securities Loan Facility

Article excerpt

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03.31.09

At its recent meeting on March 18, the Federal Open Market Committee (FOMC) acknowledged that the economy is continuing to contract as "job losses, declining equity and housing wealth, and tight credit conditions have weighed on consumer sentiment and spending."

Because current economic conditions have rendered the Fed's traditional interest rate channel no longer viable for stimulating the economy, the FOMC has turned to the use of credit-easing to support to the real economy and the financial system. Credit-easing, as Chairman Bernanke has explained, means making "use of the asset side of the Federal Reserve's balance sheet." With credit-easing as its alternative to traditional monetary policy tools, instead of influencing interest rates, the Fed changes the mix of the financial assets it holds, stimulating specific troubled markets in the process.

In line with this new policy framework, the FOMC announced it would increase the size of the balance sheet further by purchasing up to an additional $750 billion of agency mortgage-backed securities and up to $100 billion of agency debt this year. These actions could bring the Fed's total purchases of agency securities to $1.25 trillion this year and agency debt to $200 billion. ("Agency" refers to the government-sponsored enterprises (GSEs) Fannie Mae, Freddie Mac, and the Federal Home Loan Banks.) Moreover, to help improve conditions in private credit markets, the Committee decided to purchase up to $300 billion of longer-term Treasury securities over the next six months.

The purchase of mortgage-backed securities is focused on reducing the spreads of rates on GSE debt and on GSE-guaranteed mortgages, which, in turn, should reduce the cost of credit for the purchase of homes and increase its availability. Given the magnitude of the Fed's purchases, the FOMC's actions should not only foster improved conditions in financial markets but also support the housing market--which is at the heart of the current recession. At the same time, purchases of long-term treasury notes should reduce long-term rates, helping financing long-term projects. At the day of the announcement the 10-year treasury notes fell dramatically while the Fannie Mae 10-year rate had a relatively minor impact.

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In addition to the housing market, the Federal Reserve Board, in conjunction with the Treasury, is committed to supporting another specific credit market that has been under strain recently. The Term Asset-Backed Securities Loan Facility (TALF) is a credit-easing tool that aims to directly support the market for securitized assets. The TALF is part of a broader program announced last February by the Obama administration along with the Federal Reserve, the FDIC, and the Comptroller of the Currency that is intended to restore stability to the financial system more broadly.

The TALF is designed to support the issuance of asset-backed securities (ABS) collateralized by student loans, auto loans, credit card loans, and loans guaranteed by the Small Business Administration. Over the past two decades, those credit markets have grown rapidly and become an important means by which financial institutions fund loans to businesses and consumers. Strong investor demand for securities structured for different risk appetites allowed banks and other financial institutions to sell consumer and business loans in the form of ABSs at relatively low yields. …

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