The Fed is not literally printing new money to lend to Wall Street banks. What it IS doing is trading its stock of healthy, if you can call them that, U.S. Treasury bonds, bills, and notes for illiquid, not healthy at all, mortgage backed bonds.

Fed-followers argue the Fed can actually make money on this deal by demanding a large discount on the collateral and charging borrowers a hefty fee for the temporary asset exchange. The Fed’s current collateral-laundering policy is clearly inflationary. While not directly increasing the liabilities of the U.S. government (yet) the Fed only has about $700 billion in Treasury’s it can lend out for 28-days at a time (or longer, if it sees fit.) The promise to lend up to US$200 billion as of March 27 eats into this US$700 billion. And that leads us to what comes next. -First, the Fed [yesterday] lowered the discount rate on direct loans to commercial banks from 3.50% to 3.25%. It also, as we expected, extended the terms of this emergency loans (collateral swaps) from 30 days to 90 days. -Next, according to the Fed’s release, “the Federal Reserve Board voted unanimously to authorize the Federal Reserve Bank of New York to create a lending facility to improve the ability of primary dealers to provide financing to participants in securitization markets.” -“This facility will be available for business on Monday, March 17. It will be in place for at least six months and may be extended as conditions warrant. Credit extended to primary dealers under this facility may be collateralized by a broad range of investment-grade debt securities. The interest rate charged on such credit will be the same as the primary credit rate, or discount rate, at the Federal Reserve Bank of New York.” -The Fed said the cut in the discount rate and the new lending facility are “designed to bolster market liquidity and promote orderly market functioning. Liquid, well-functioning markets are essential for the promotion of economic growth.” Yes, they are. -But will the Fed’s surprise Sunday double-barreled policy action turn the tide for stocks?

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