At a time of financial crisis, offers support to some specific institutions. It carries out this so as to avert disorderly failures in the economy. This helps in preventing the situation in the economy from becoming more severe and straining financial system and harming the economy of the United States. This makes the government offer some support arrangement to key firms. There are three ways that the Federal Reserve can make use of direct spending to when it comes to fighting the crisis. Some of the ways are:
This is where the federal bank expands its collateralized lending to financial institutions as there is a freeze in short-term markets. This is aimed at making the financial institutions have access to critical funding that are required for day-to-day operations. Usually, the Federal Reserve gives loans only to institutions who take deposits. One of these institutions is commercial banks. This process is always termed as discount-window lending. But, with the widespread fall in confidence in 2008, investment banks together with those that were primary dealers when it comes to the government securities had big trouble with regards to getting short-term funding. This made the institutions vulnerable to credit offs, and this was similar to bank runs. This made the Federal Reserve to offer short-term loans that are secured to primary dealers. The short-term loans were similar to discount-window loans that were being offered to banks. This initiative made the conditions in the United States markets to improve so much in the year 2009.
Supporting impaired financial markets
Looking back at the year 2008, the Federal Reserve took certain steps to improve conditions in two important markets. The markets are those that broke down due to the panic in fall 2008. Among the markets were short-term lending to business and money market funds. Money market mutual funds have the responsibility of collecting funds from investors and after that, it puts the money into short-term investments. Examples of short-term investment are unsecured short-term loans and Treasury bills to the corporation. This is also known as commercial paper. The commercial paper market is the major source of funds for other small businesses. A big problem can in when an investment bank in the name of Lehman Brothers was declared bankrupt. This instilled fear in the investors related to commercial papers becoming worthless due to more failures. Investors started King money out of money market mutual funds that had the commercial papers. This effect led to skyrocketing interest rates related to commercial papers. The Federal Reserve came in to rescue the day by providing secured loans to these institutions. This ensured that adequate funds were available. The eventual outcome of this move was falling of interest rates of commercial papers. This has remained in this way ever since.
Supporting systematically financial institutions
The Federal Reserve also tries to support directly financial institutions. This is also evident in the year 2008 where it carried out the purchase of Bear Stearns. This was possible by the bank JPMorgan Chase. The move was possible by providing loans that were backed by the some assets Bear Stearns. This was after this investment bank nearly failed. The failing of this investment bank would have severely affected the financial market. A few months later an investment bank called Lehman Brothers collapsed. The reason the investment bank collapsed was because there was no any private entity that was willing to purchase this investment bank that was troubled. The investment bank also had no collateral to enable it to qualify for a loan. The largest insurance company in the United States was also under the threat of collapse, but the Federal Reserve came in and saved the day by providing it with a secured loan.