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2008 Federal Reserve Bailout: Crisis-Hit Banks Flooded Fed with Junk

Banks flooded the Federal Reserve with billions of dollars in “junk bonds” and other low-grade collateral in exchange for much-needed liquidity during the crisis, as the financial sector struggled under a crippling credit crunch, new data show. More than 36 percent of the cumulative collateral pledged to the US central bank in return for overnight funding under the Primary Dealer Credit Facility was equities or bonds ranked below investment grade. A further 17 percent was unrated credit or loans, according to a Financial Times analysis of Fed data released this week. Only 1 percent of the collateral was Treasury bonds, which are normally used in transactions between banks and the monetary authorities. The Fed created the PDCF in March 2008 after the demise of Bear Stearns to ease investment banks’ liquidity problems. At the time, it allowed banks to pledge only investment grade-rated collateral. But after the failure of talks to save Lehman paved the way for its bankruptcy, the Fed broadened the collateral requirements to include any asset that could be used in the tri-party repo system.

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