Here's a simply stunning statement from the Federal Reserve Board

Statement from the Federal Reserve Board

The Federal Reserve Board on Sunday announced several initiatives to provide additional support to financial markets, including enhancements to its existing liquidity facilities.

"In close collaboration with the Treasury and the Securities and Exchange Commission, we have been in ongoing discussions with market participants, including through the weekend, to identify potential market vulnerabilities in the wake of an unwinding of a major financial institution and to consider appropriate official sector and private sector responses," said Federal Reserve Board Chairman Ben S. Bernanke. "The steps we are announcing today, along with significant commitments from the private sector, are intended to mitigate the potential risks and disruptions to markets."

"We have been and remain in close contact with other U.S. and international regulators, supervisory authorities, and central banks to monitor and share information on conditions in financial markets and firms around the world," Chairman Bernanke said.

The collateral eligible to be pledged at the Primary Dealer Credit Facility (PDCF) has been broadened to closely match the types of collateral that can be pledged in the tri-party repo systems of the two major clearing banks. Previously, PDCF collateral had been limited to investment-grade debt securities.

The collateral for the Term Securities Lending Facility (TSLF) also has been expanded; eligible collateral for Schedule 2 auctions will now include all investment-grade debt securities. Previously, only Treasury securities, agency securities, and AAA-rated mortgage-backed and asset-backed securities could be pledged.

These changes represent a significant broadening in the collateral accepted under both programs and should enhance the effectiveness of these facilities in supporting the liquidity of primary dealers and financial markets more generally.

Also, Schedule 2 TSLF auctions will be conducted each week; previously, Schedule 2 auctions had been conducted every two weeks. In addition, the amounts offered under Schedule 2 auctions will be increased to a total of $150 billion, from a total of $125 billion. Amounts offered in Schedule 1 auctions will remain at a total of $50 billion. Thus, the total amount offered in the TSLF program will rise to $200 billion from $175 billion.
The Board also adopted an interim final rule that provides a temporary exception to the limitations in section 23A of the Federal Reserve Act. It allows all insured depository institutions to provide liquidity to their affiliates for assets typically funded in the tri-party repo market. This exception expires on January 30, 2009, unless extended by the Board, and is subject to various conditions to promote safety and soundness.

It's stunning in that the Fed is now playing with its own balance sheet. To borrow from the Fed, banks need to be a going concern and also need AAA collateral. It seems that this requirement is being weakened, even if they're still focused on the best of all possible assets.

I have to imagine that this move, more than any we have seen to date, will affect not only the dollar but the credit rating for the US. Of course, the Federal Reserve isn't part of the government, but as the central bank, its actions have major impact on the financial condition of the US and how the US is viewed at home and overseas.

It's not a long-term change, but right now it signals how very serious this current mortgage crisis is.

Finally for this evening, if you want to read an interesting book on the topic, try The Trillion Dollar Meltdown: Easy Money, High Rollers, and the Great Credit Crash by Charles R. Morris.  I read it in late April and it helped consolidate for me all the threads of information that I accumulated about the US banking system.  The one thing with which I didn't really resonate was his pessimistic view of what would happen when the synthetic collateralized debt obligations started to unwind.   It turns out that his stance wasn't without its merits.

The first few chapters are interesting reading; he gives a different perspective on the last fifty years of financial history.  It's a good read.