Fed bumps up banks' lending rate

WASHINGTON — The Federal Reserve decided Thursday to boost the rate banks pay for emergency loans. The action is part of a broader move to pull back the extraordinary aid it provided to fight the worst financial and economic crisis since the 1930s.

The move won't directly affect borrowing costs for millions of Americans. But with the worst of the financial crisis over, it brings the Fed's main crisis lending program closer to normal.

The Fed decided to bump up the "discount" lending rate by one-quarter point to 0.75 percent. The increase takes effect today.

The central bank said the action should not be viewed as a signal that it will soon boost interest rates for consumers and businesses. Record-low borrowing costs near zero are still needed to foster the recovery, it said. The Fed repeated its pledge to keep interest rates at "exceptionally low" levels for an "extended period."

The Fed had signaled for weeks that an increase in the discount rate was coming. It made its announcement Thursday after the financial markets had closed. Investors, however, viewed the bump-up in the emergency lending rate as a step toward broader credit tightening. In after-hours trading, the dollar strengthened, yields on two-year Treasury securities rose and stock futures dipped.

The Fed portrayed its action as moving its emergency program for banks closer to normal. But the markets saw it initially as a prelude to higher borrowing costs across the board.

"I think one man's normalization is another man's tightening," said T.J. Marta, market strategist and founder of Marta on the Markets, a financial research firm, explaining the market's reaction.

Marta still thinks higher interest rates for American borrowers are months away.

"The Fed did extraordinary things from keeping the economy imploding during the crisis," he said. "Now that that danger is gone, the Fed can take away some of those supports."

The economy is growing again, and financial conditions have improved. But unemployment is still near double digits, and demand for loans remains weak. Many ordinary Americans and small businesses have found it difficult to borrow.

When credit virtually shut down starting in 2008, banks had nowhere to go except the Fed to borrow. Banks can now more easily tap private lending sources than they could then. As a result, the Fed now feels more comfortable about boosting the rate banks pay on emergency loans.

Because financial conditions have improved, the Fed also said Thursday that it will shorten the length of emergency loans drawn from its emergency lending program. They will go back to overnight loans, effective on March 18.

Earlier this month, the Fed shut down a handful of programs to help banks and other companies get access to credit.

Like those program shutdowns, the action announced Thursday is "intended as a further normalization of the Federal Reserve's lending facilities," the Fed said.

"The modifications are not expected to lead to tighter financial conditions for households and businesses and do not signal any change in the outlook for the economy or monetary policy," the Fed said.