In its latest effort to unclog credit markets, the Federal Reserve Board today said it will buy commercial paper a main source of assets that corporations traditionally tap to fund their operations.
The Commercial Paper Funding Facility will provide a liquidity backstop to U.S. issuers of commercial paper through a special purpose vehicle that will purchase three-month unsecured and asset-backed commercial paper directly from eligible issuers, the Fed said in a statement.
The Fed will also buy commercial paper that is not asset-backed but charge up-front fees for the service.
The Treasury believes this facility is necessary to prevent substantial disruptions to the financial markets and the economy and will make a special deposit at the Federal Reserve Bank of New York in support of this facility, the Fed said of the financing of this program, announced just days after the U.S. government created a $700 billion rescue package to revive the financial system.
Many companies use commercial paper to fund payroll and other cash-dependent operations.
The Fed noted the measure was needed because credit availability is shrinking and more expensive in the $1.6 trillion short-term market.
By eliminating much of the risk that eligible issuers will not be able to repay investors by rolling over their maturing commercial paper obligations, this facility should encourage investors to once again engage in term lending in the commercial paper market, the Fed added.
Robert Brusca, chief economist at New York consulting firm FAO Economics, said the measure is needed to help a U.S. economy severely weakened by the lack of credit availability.
This plan puts financing directly where it is needed, Mr. Brusca wrote in a note to clients. "It could be a particular godsend for the automakers, where car loans have been hard to get and dealers have been going out of business."
Buying commercial paper was one of three recommendations that PIMCO Chief Investment Officer Bill Gross made in his monthly investment commentary, which was issued on Monday. The other suggestions included cutting interest rates to 1% and clear institutional transactions to be sure they close.