The US Treasury is to create a new supplementary financing program to supply the Federal Reserve with money to rescue financial institutions and supply emergency liquidity to the markets.
The move was prompted by fears that the US central bank’s balance sheet was overstretched following its emergency $85 billion rescue of insurance company American International Group.
The Treasury said today it is selling $40 billion of cash management bills - essentially a fresh batch of debt - at the US central bank's request as part of what a Treasury official called an attempt to "help them better manage their balance sheet."
Auction results from these sales are expected later this afternoon.
The new supplementary financing program was announced by Treasury just hours after the Fed offered up to $85 billion in loans to rescue crippled insurer AIG - a move that gives the Fed nearly an 80 per cent stake in the insurers.
Treasury said its new financing program, which it said was set up at the Fed's request, would be temporary, though it did not specify how long it expected it to last.
It said: "The Federal Reserve has announced a series of lending and liquidity initiatives during the past several quarters intended to address heightened liquidity pressures in the financial market, including enhancing its liquidity facilities this week.
“To manage the balance sheet impact of these efforts, the Federal Reserve has taken a number of actions, including redeeming and selling securities from the System Open Market Account portfolio.
"The Treasury Department announced today the initiation of a temporary Supplementary Financing Program at the request of the Federal Reserve. The program will consist of a series of Treasury bills, apart from Treasury's current borrowing program, which will provide cash for use in the Federal Reserve initiatives.
The White House today defended actions taken to shore up troubled insurance company AIG, saying it prevented broader harm to the economy, and said there was concern about other companies.
Treasury and Federal Reserve chiefs and other government economic advisors had determined "some of these companies were so big that to allow them to fail would have caused even greater harm and damage to the economy," White House spokeswoman Dana Perino said.
"We remain concerned about other companies and that's why the secretary of the Treasury continues to work with the team to see if we can stem any other losses," Ms Perino said, saying any other determinations would be on a case-by-case basis.
She added that "we have a very mixed picture" of the US economy and these "challenging times" would take some time to work out. She did not name any companies.