Fed Cuts Discount Rate to 3.25%

Updated from March 16

Aiming to shore up financial market liquidity, the Federal Reserve Sunday cut the discount rate to 3.25% from 3.50%, effective immediately.

The Fed also said it had extended the maximum maturity of loans it will make to banks at its discount window to 90 days from 30. Historically, the Fed has made these loans overnight or for short periods, but last August policymakers raised the maximum term to 30 days in an effort to deal with the initial market fallout from the subprime meltdown.

Also Sunday, the central bank said it has authorized the New York Fed to create a lending facility to "improve the ability of primary dealers to provide financing to participants in securitization markets." The facility will be available Monday, March 17.

The facility will allow primary dealers, the large banks and brokerages that trade securities directly with the New York Fed, to borrow at the discount rate and pledge a broad range of investment-grade securities as collateral. The Fed said it will keep the facility in place for at least six months and will extend it as "conditions warrant."

Sunday's cut puts the discount rate a quarter-point above the federal funds target, which is the rate large banks charge each other for overnight loans.

The policy-setting Federal Open Market Committee is scheduled to meet Tuesday, and as of Friday, the futures market had priced in a 75-basis-point cut in the fed funds rate at the meeting. Since September, the Fed has cut 225 basis points from the fed funds rate, but those decreases, along with other actions, have failed to restore liquidity in the credit markets.

The latest big trauma for the markets came Friday, when investment bank Bear StearnsBSC announced it had liquidity problems and was being rescued by a loan from JPMorgan ChaseJPM that was backed by the New York Fed. On Sunday, JPMorgan reportedly agreed to buy Bear Stearns for $2 a share.