Fed Says ECB, Others to Offer Unlimited Dollar Funds

By John Fraher and Simone Meier

Oct. 13 (Bloomberg) -- The U.S. Federal Reserve led an unprecedented push by central banks to flood financial markets with dollars, backing up government efforts to restore confidence in the banking system.

The ECB, the Bank of England and the Swiss central bank will offer unlimited dollar funds in auctions with maturities of seven days, 28 days and 84 days at a fixed interest rate, the Washington-based Fed said today. The Bank of Japan may introduce ``similar measures.'' The dollar declined and some money-market rates fell.

Policy makers from the Group of Seven nations pledged at the weekend to take ``all necessary steps'' to stem a market panic after the MSCI World stock index plunged 20 percent last week. Central banks last week cut interest rates in tandem for the first time since 2001, the U.S. plans to buy $700 billion in distressed assets from banks and in Europe, the U.K. is leading a push to keep lenders afloat with taxpayers' money.

``By providing unlimited dollar funds they are acting on the back of the G-7 plan to ensure the system is fully liquidized,'' said Lena Komileva, an economist at Tullet Prebon Plc in London. ``We're going to see even more liquidity provided and more aggressive rate cuts are coming.''

`Funding Stresses'

The dollar dropped after the announcement, falling as much as 0.9 percent to $1.3671. The cost of borrowing in euros for three months declined to 5.32 percent today from 5.38 percent, according to the European Banking Federation. Stocks rallied worldwide, with the MSCI World Index climbing 2 percent.

The London interbank offered rate, or Libor, that banks charge each other to borrow dollars for three months last week soared to 4.82 percent, the highest level this year.

``Taken together, the latest moves increase the chances that we will begin to see some relaxation of the intense funding stresses,'' a team including Dominic Wilson, senior global economist at Goldman Sachs Group Inc. in New York, wrote in a note today. ``This is because bank solvency risk should decline as the government offers protection.''

Central banks are expanding their toolkits to push down money-market rates. The Fed on Oct. 7 said it will create a special fund to buy U.S. commercial paper and the ECB last week said it would offer financial institutions unlimited euro funds. The Bank of England is scheduled to announce a revamp of its own money-market operations later this week.

`Work Together'

The ECB, the BOE and the Swiss National Bank ``can provide U.S. dollar funding in quantities sufficient to meet their demand'' into 2009, the Fed said today. ``Central banks will continue to work together and are prepared to take whatever measures are necessary to provide sufficient liquidity in short- term funding markets.''

All of the previous dollar swap arrangements between the Fed and other central banks were capped.

Today's ``action is unprecedented,'' said Neil Mackinnon, chief economist at ECU Plc in London and a former U.K Treasury official. Andrew Milligan, who helps oversee about $260 billion as head of global strategy at Standard Life said that it's a ``much more important'' move than the coordinated rate cut.

G-7 finance chiefs pledged Oct. 10 to take ``urgent and exceptional action'' after stocks plunged and as a global recession looms. European leaders yesterday agreed to guarantee new bank debt and use taxpayer money to keep distressed lenders afloat. Royal Bank of Scotland Group Plc, HBOS Plc, and Lloyds TSB Group will get an unprecedented 37 billion-pound ($64 billion) bailout from the U.K. government.

Lehman Collapse

The collapse of New York-based Lehman Brothers Holdings Inc. precipitated the latest chapter of the 14-month crisis, causing banks to stop lending to each other out of concern they may not get their money back. The world's largest financial companies have posted more than $635 billion in writedowns and credit losses since the start of last year after the U.S. housing market collapsed.

Today's move is ``another welcome measure,'' said Ross Walker, an economist at Royal Bank of Scotland Group Plc in London. ``We'll have to see what comes out of it. We all expect more rate cuts, whether they're coordinated or not is another matter.''

To contact the reporter on this story: John Fraher in London at jfraher@bloomberg.net; Simone Meier in Frankfurt at smeier@bloomberg.net.