Governments everywhere responded to the panic by pumping more equity into banks, greatly expanding the ambit of their deposit insurance, and opening up various central bank discount windows for distress borrowers. This gigantic effort seems to have reduced counterparty party risk, the fear of bank failure, in interbank trading. Figure 1 shows the one- month LIBOR rate coming down close to the Fed funds rate, now near zero, by mid 2009. In 2009, however, with counterparty risk in abeyance but not completely vanquished, the zero interest rate policy became an important supply-side constraint on the resumption.
