The European Central Bank is to offer banks unlimited funds at a below-market rate, in a cash injection to counter the impact of the global credit crunch.
It is one of five central banks that have pledged to inject billions in emergency cash into money markets. The aim is to cut the cost of lending between retail and ommercial banks, which has jumped in the past few weeks.
All banks with enough collateral, and which submit bids of at least 4.21%, will receive funds from the ECB. The interest rate being charged on the loan is lower than the 4.9% market rate for interbank borrowing which has been in place over the past few days.
The idea is to try and bring down interbank rates closer to the ECB's target interest rate of 4%.
The two-week ECB refinancing operation is the first time it has said it would offer banks unlimited funds, above a certain interest rate, since 9 August when the credit crisis started.
Central bank coordination
The main reason banks have been unwilling to lend to each other is a downturn in the US property market. A surge in mortgage defaults and bad debts has forced many banks to cut the value of their mortgage investments, costing them billions of dollars.
As a result, the banks fear that they might need any spare cash they have to cover their losses.
Central banks have also been boosting liquidity into the banking sector to ensure banks keep offering credit to businesses.
On Monday, the US Federal Reserve made $20bn available through auction, though it did not say how many banks took advantage of the extra money. And on Tuesday the Bank of England is set to lend more than another £10bn in funds.
As well as the Bank of England, the Fed, and the European Central Bank, the national banks of Canada and Switzerland are also involved in the funding plan. But some analysts say that until the banks reveal the true scale of their potential losses, the central banks will be unable to do much to ease the credit crunch.
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