Bank of England Announces $100 Billion Banking Rescue

By Jennifer Yousfi
Managing Editor

In an effort to restore liquidity to the U.K. financial markets, the Bank of England (BOE) yesterday (Monday) announced a $100 billion (50 billion pounds) rescue plan.

The plan, similar to the U.S. Federal Reserve's lending initiative, will allow U.K. banks to swap illiquid mortgage-backed assets for government bonds. The BOE hopes the plan will encourage banks to begin interbank lending again, which in turn should loosen up commercial lending as well.

The plan will "unfreeze the situation we've got at the moment," Chancellor of the Exchequer Alistair Darling said in an interview with the BBC, Bloomberg News reported. "What the Bank of England will do is, in effect, lend the banks that money. In the meantime, the Bank of England will take a security."

Analysts believe the plan will help in the short-term, however, due to restrictions in the plan and the high cost of punitive terms, demand for funds could be muted.

"We believe the proposed asset swap scheme will help ameliorate pressures within funding markets," Bank of America Corp. (BAC) analyst Matt Sharratt told BusinessWeek. "Still, it is unlikely to be a silver bullet."

The BOE will honor the asset swaps for one year, the option to renew for an additional three years. Only pre-existing assets can be used as collateral for the swaps.

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The announcement put downward pressure on the pound sterling, which was down over 0.6% at the close in New York.

"If banks use this facility, liquidity spreads will ultimately come down due the additional liquidity in the system, but there will be no immediate relief for the stressed mortgage market, explaining the negative reaction of sterling," PNB Paribas analysts said, the AFP reported.

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