[F]iscal actions are unlikely to promote a lasting recovery unless they are accompanied by strong measures to further stabilize and strengthen the financial system.  History demonstrates conclusively that a modern economy cannot grow if its financial system is not operating effectively...

...Consequently, more capital injections and guarantees may become necessary to ensure stability and the normalization of credit markets.  A continuing barrier to private investment in financial institutions is the large quantity of troubled, hard-to-value assets that remain on institutions' balance sheets.  The presence of these assets significantly increases uncertainty about the underlying value of these institutions and may inhibit both new private investment and new lending.  Should the Treasury decide to supplement injections of capital by removing troubled assets from institutions' balance sheets, as was initially proposed for the U.S. financial rescue plan, several approaches might be considered.  Public purchases of troubled assets are one possibility.  Another is to provide asset guarantees, under which the government would agree to absorb, presumably in exchange for warrants or some other form of compensation, part of the prospective losses on specified portfolios of troubled assets held by banks.  Yet another approach would be to set up and capitalize so-called bad banks, which would purchase assets from financial institutions in exchange for cash and equity in the bad bank.  These methods are similar from an economic perspective, though they would have somewhat different operational and accounting implications. 

As the participants in this conference are keenly aware, I am sure, housing and housing finance played a central role in precipitating the current crisis.  As the crisis has persisted, however, the relationships between housing and other parts of the economy have become more complex.  Declining house prices, delinquencies and foreclosures, and strains in mortgage markets are now symptoms as well as causes of our general financial and economic difficulties.  These interlinkages imply that As the participants in this conference are keenly aware, I am sure, housing and housing finance played a central role in precipitating the current crisis.  As the crisis has persisted, however, the relationships between housing and other parts of the economy have become more complex.  Declining house prices, delinquencies and foreclosures, and strains in mortgage markets are now symptoms as well as causes of our general financial and economic difficulties.  These interlinkages imply that policies aimed at improving broad financial and economic conditions and policies focused specifically on housing may be mutually reinforcing.  Indeed, the most effective approach very likely will involve a full range of coordinated measures aimed at different aspects of the problem.

...

Because developments in the housing sector have become so interlinked with the evolution of the financial markets and the economy as a whole, both macro and micro policies have a role in addressing the strains in housing.  At the macro level, the Federal Reserve has taken a number of steps, beginning with the easing of monetary policy.  To the extent that more accommodative monetary policies make credit conditions easier and incomes higher than they otherwise would have been, they support the housing market.

The Federal Reserve has also implemented a series of actions aimed at restoring the normal functioning of financial markets and restarting the flow of credit, including providing liquidity to a range of financial institutions, working with the Treasury and the Federal Deposit Insurance Corporation (FDIC) to help stabilize the banking system, and providing backstop liquidity to the commercial paper market...