As Stocks Fall, Central Banks Pick Up the Pace

Central banks around the world injected liquidity into the global financial system overnight, after Thursday's market declines and liquidity fears.

The Federal Reserve, the European Central Bank, the Bank of Japan and the Royal Bank of Australia all injected more overnight liquidity than usual to help meet the demand for cash. And the central banks of Philippines, Indonesia and South Korea all said they would provide more cash if necessary.

Perhaps more importantly, the Fed issued a statement Friday morning designed to soothe the markets:

The Federal Reserve will provide liquidity to facilitate the orderly functioning of financial markets.

The Federal Reserve will provide reserves as necessary through open market operations to promote trading in the federal funds market at rates close to the Federal Open Market Committee's target rate of 5-1/4 percent. In current circumstances, depository institutions may experience unusual funding needs because of dislocations in money and credit markets. As always, the discount window is available as a source of funding.

The Fed's statement was similar to the one from Bank of Canada yesterday, but any statement at all is a clue to investors that the Fed is on watch and there to prevent a financial crisis. The statement comes notwithstanding Friday's news that import prices rose 0.2% in the month of July, bringing year-over-year growth in import prices to 2.8%, excluding oil. The increase in import prices is "a sixth consecutive rise that would underscore the Fed's concern regarding inflation," writes T.J. Marta, fixed-income strategist at RBC Capital Markets.

Certainly, the Fed's "predominant concern" about inflation has kept the central bank on hold with the fed funds rate at 5.25%. These concerns fly in the face of now-100% odds in futures trading for a rate cut by the Sept. 18 meeting of the FOMC.