Struggling to prevent a meltdown in financial markets, The US central bank, on Sunday, cut its lending rate to banks by a quarter of percentage point and established new lending facility to make short-term loans to banks, in a dramatic bid to boost liquidity in an economy hit hard by defaults on home mortgages and a tightening credit market.

In its first weekend emergency action in almost three decades, the Federal Reserve approved the move unanimously in an emergency weekend meeting, immediately decreasing the so-called discount rate from 3.5 per cent to 3.25 per cent.

New lending facility floated

It also announced the creation of a lending facility to make short-term loans to financial institutions designed to “improve the ability of primary dealers to provide financing to participants in securitisation markets.” The Fed also will lend to 20 firms that buy treasury securities directly from it. The new lending organisation will make loans beginning Monday and will last for at least six months. It also approved the sale of ailing investment bank Bear Stearns to bank JPMorgan Chase.

The Fed said the decisions were “designed to bolster market liquidity and promote orderly market functioning. Liquid, well-functioning markets are essential for the promotion of economic growth.”

“These steps will provide financial institutions with greater assurance of access to funds,” Federal Reserve Chairman Ben Bernanke said after the announcement. The board’s action came ahead of its next regularly scheduled meeting, on Tuesday, at which analysts expect a cut in its benchmark interest rate of up to 1 percentage point.

The move is Chairman Ben S Bernanke’s latest step to alleviate a seven-month credit squeeze that’s probably pushed the US into a recession.

The Bank of England said on Monday it will offer 5 billion pounds ($10 billion) of extra three-day funds in an emergency fine-tuning operation. The European Central Bank and the Swiss National Bank declined to comment on whether they’re planning any measures.

The Fed has lowered its benchmark overnight rate five times and discount rate seven times since the middle of August, when the collapse of US subprime mortgages started to infect markets around the world. Since then, the S&P 500 stocks index has dropped 11 per cent and the dollar has fallen 15 per cent against the euro.

Opening up lending to firms other than commercial banks represents a shift in the Fed’s 94-year history.