No letup for market beat-down

Fed jumps in with plan to help, but Dow still falls more than 500 points; interest-rate cut possible

WASHINGTON — The Federal Reserve on Tuesday moved swiftly to break through a credit clog that is imperiling the economy, saying it would buy massive amounts of short-term debt and hinting that it may cut interest rates.

Wall Street was unimpressed: The Dow Jones industrials shed more than 500 points.

Fed Chairman Ben Bernanke warned that the financial crisis has not only darkened the country's current economic performance but also could prolong the pain.

"The outlook for economic growth has worsened," Bernanke said in a speech at the annual meeting of the National Association for Business Economics.

His more gloomy assessment appeared to open the door wider to an interest rate cut on or before Oct. 28-29, the central bank's next meeting, to brace the wobbly economy. The Fed's key interest rate now stands at 2 percent.

President Bush, saying the economic meltdown has brought tough times for many Americans, pledged that "we're going to come through this."

"Have faith, this economy is going to recover over time," Bush said in a speech at an office supply company in the Washington suburb of Chantilly, Va. "I wish I could snap my fingers and make what happened stop. But that's not the way it works."

The president earlier reached out to European leaders to urge coordination on efforts to solve the financial crisis spreading around the globe. The White House said Bush was open to the idea of a leaders' summit on the economic upheaval.

The statements came against a backdrop of increasing concern that a global recession is rapidly developing. There is growing pressure for the U.S. government to do more beyond the $700 billion financial bailout package Bush signed into law Friday.

To that end, the Fed invoked Depression-era emergency powers to begin buying commercial paper, short-term funding that many companies rely on to pay their workers and buy supplies.

The government's bailout package is aimed at thawing lending by buying rotten mortgages and other bad debts from banks and other financial institutions. By getting these bad debts off banks' balance sheets, they might be in a better position to raise capital and more willing to lend to each other and to customers.

Tight credit has made it increasingly difficult and expensive for companies to raise money to fund their operations.

"The expansion of Federal Reserve lending is helping financial firms cope with reduced access to their usual sources of funding," Bernanke said.

Commercial paper is a way of borrowing money for short periods, typically ranging from overnight to less than a week.

In more normal times, about $100 billion of these short-term IOUs were outstanding at any given time, sold by companies to buyers that included money market mutual funds, pension funds and other investors. This market has virtually dried up as investors have become too jittery to buy paper for longer than overnight or a couple of days.

The unstable situation has left many companies vulnerable. The notion under the plan is for the government to provide a "backstop" that would give companies a new place to get cash, the Fed said.

The action makes the Fed a crucial source of credit for nonfinancial businesses, in addition to commercial banks and investment firms.

Credit markets eased slightly after the Fed's move raised hopes that it would quickly relieve the short-term funding problems plaguing some companies.

European stocks were mixed on hopes that central banks around the globe would coordinate on rate cuts. In Britain, the FTSE 100 index ended 0.4 percent higher, France's CAC-40 index in Paris ended 0.6 percent higher, but Germany's DAX slipped 1.1 percent.

Iceland is facing the prospect of bankruptcy, according to the Prime Minister Geir Haarde, after its banks went on a buying spree across Europe, accumulating massive debt in the process.

The Fed said it is creating a new entity to buy three-month unsecured and asset-backed commercial paper directly from eligible companies. It hopes to have the program running soon, Fed officials said.

Fed officials said they'll buy as much of the debt as necessary to get the market functioning again. They wouldn't say how much that might be, but they noted that around $1.3 trillion worth of commercial paper would qualify.

"The commercial paper market has been under considerable strain in recent weeks as money market mutual funds and other investors" have become increasingly reluctant to buy commercial paper, especially longer-dated maturities.

As the market for commercial paper shrank, the Fed said rates on the longer-term debt "increased significantly," making it more expensive for companies to borrow.

The Treasury Department, which worked with the Fed on the program, said the action is "necessary to prevent substantial disruptions to the financial markets and the economy."

The Treasury will provide money to the Federal Reserve Bank of New York to support the new program, the Fed said. Fed officials would not say how much but believed it would be substantial.

The money would not come from the $700 billion financial bailout President Bush signed into law on Friday.

If a company's commercial paper is not backed by assets or other forms of security acceptable to the Fed, the company could pay an upfront fee, the central bank said. The amount of such a fee has not yet been determined.

The Fed said it hoped its effort would jolt the commercial paper market back to life.

"This facility should encourage investors to once again engage in term lending in the commercial paper market," the Fed said. That should eventually spur financial companies to lend to each other and to their customers, including consumers, the Fed said.

The Fed said it planned to stop buying commercial paper on April 30 unless the Federal Reserve board agrees to extend the program.

The Fed created a separate entity to pool and hold the commercial paper it buys. The Fed said this should allow the central bank to more easily manage the program and better control risk.

Global impact on markets

A look at what happened in some stock markets around the world Tuesday:

RUSSIA: Russia's markets continued their fall after enjoying a brief recovery when they reopened from suspended trading, a move by regulators to avert further damage. The RTS closed down 1 percent at 858.2 points after briefly breaching 900 points in the early afternoon. The MICEX dropped at one point in trading by 7.9 percent late in the afternoon, but recovered most of its losses to close down also by 1 percent to 744.8 points. Efforts by the Russian government to prop up the country's troubled banking sector with fresh cash injections did little to lift the shattered stock markets a day after suffering their worst-ever day of trading.

JAPAN: Japanese shares dropped to the lowest in almost five years. The benchmark Nikkei 225 index lost 317.90 points, or 3.03 percent, to close at 10,155.90 — its lowest finish since December 2003. The index at one point had tumbled more than 5 percent to 9,916.21 in the morning session, dropping under the psychologically key 10,000 level for the first time in almost five years, but managed to recover later in the day. Investors hardly reacted to the widely expected move by the Bank of Japan to leave its key interest rate unchanged at 0.5 percent following its two-day policy board meeting.

ICELAND: Iceland nationalized its second-largest bank under day-old emergency legislation and said it was negotiating a 4 billion euro ($5.4 billion) loan from Russia to shore up the nation's finances amid a full-blown financial crisis. The central bank also loaned 500 million euros ($680 million) to Kaupthing, the country's biggest bank, to tide it through the crisis.

EUROPE: The European Union's 27 governments agreed Tuesday to guarantee private savings of up to 50,000 euros for one year and set guidelines on how each country could rescue failing bank. But the EU failed to agree on a minimum bank guarantee of 100,000 euros — five times the current EU minimum of 20,000 euros — because some smaller and poorer nations feared they could not cover such an amount. Countries can, of course, go beyond the EU minimum and many already have.

BRITAIN: The Bank of England offered $10 billion in an overnight operation, the second day in a row that the bank offered short-term liquidity. Britain was the focal point of banking jitters with Royal Bank of Scotland Group PLC shedding around 40 percent of its value amid ongoing liquidity and solvency concerns. Meanwhile, Lloyds TSB PLC, which is in the process of taking over HBOS PLC, was down nearly 13.0 percent, while Barclays PLC, which has denied it is asking for government funding, was 9.0 percent lower. HBOS itself was down 41 percent.