WASHINGTON, Oct 6: The Federal Reserve and the US Treasury announced measures on Monday to confront a rapidly escalating financial crisis under new emergency powers.

The central bank and Treasury said they were studying the possibility of making unsecured loans in an effort to keep credit flowing in the financial system.

The Federal Reserve said it would start to pay interest on bank deposits and expand bank loans to up to $900 billion by year-end in a bid to increase liquidity.

The payment of interest on reserve balances “will give the Federal Reserve greater scope to use its lending programmes to address conditions in credit markets while also maintaining the federal funds rate close to the target established by the Federal Open Market Committee,” the central bank said in a statement.

A $700 billion financial sector bailout enacted on Friday by President George W. Bush accelerated the launch of Fed interest rate payments on deposit balances to Oct 1, four years ahead of a date set in a 2006 law.

“The credit crisis is spreading, with the European banking sector now also under pressure. Though global central banks have injected massive amounts of liquidity, confidence has failed to improve. Banks are reluctant to lend to one another, which results in higher borrowing costs,” said Ryan Sweet at Economy.com.

RDQ Economics analysts John Ryding and Conrad DeQuadros said the Fed’s authorisation to pay interest “is important because it enables the Fed to expand its balance sheet while maintaining a fed funds rate somewhere ‘close” to the target rate” of 2.0 per cent.

“Liquidity is being hoarded, as evidenced by the explosion in excess reserves, and the Fed has become the lender of last resort to everyone (banks, primary dealers, AIG, money market funds, and foreign central banks),” Ryding and DeQuadros wrote in a client note.

“What is needed (yes at the expense of future moral hazard issues) is for the Fed and other central banks to guarantee transactions between regulated banks for a period of at least one year,” they said.—AFP