Federal Reserve cuts back on credit auctions

— -- The Federal Reserve on Thursday took its first small steps toward undoing an extraordinary series of financial market interventions. But the nation's central bank, signaling that the economy remains fragile, also hedged its bets by extending into 2010 several programs that were due to expire this fall.

"Conditions in financial markets have improved in recent months, but market functioning in many areas remains impaired and seems likely to be strained for some time," said a Fed statement.

Hailing signs of life in once-desolate markets, the Fed reduced the amount of planned credit auctions in its Term Auction Facility (TAF), a program designed to provide funds for cash-strapped institutions. In the most recent auction on June 15, banks borrowed just $48 billion, well below the $150 billion the Fed made available.

The Fed also reduced the frequency of a second auction program, the Term Securities Lending Facility, and eliminated a program designed to support money market mutual funds.

"It tells us the financial markets are healing. Actually, it's a positive sign," said John Lonski, chief economist for Moody's.

Credit is flowing more smoothly than after the mid-September bankruptcy of Lehman Bros. froze global financing. Corporations are raising more money from bondholders: $657 billion in investment-grade bonds were issued so far this year, up 22% from the same period last year, Lonski said.

Likewise, the extra yield companies must offer investors to persuade them to hold those bonds has fallen since the depths of the crisis late last year. The spread between "A" rated bonds and Treasuries is 195 basis points, less than half its crisis peak in late December, Lonski said.

The progress suggests that the Fed's multifront campaign against financial collapse has gained ground. But the situation remains far from normal. Spreads are still well above their long-term average, and jittery markets are vulnerable to additional shocks.