The agreement with New York Attorney General Andrew Cuomo and the Securities and Exchange Commission could pave the way for other settlements stemming from February's meltdown of the $330 billion auction-rate market.

Late Thursday, Merrill Lynch said it will follow Citigroup in cobbling together a settlement for clients who bought auction rate securities, amid growing pressure from its own brokers to pay their clients back.

Confirming a report on CNBC that Merrill was considering such a move, the firm said that effective January 15, 2009, and through January 15, 2010, it will offer to buy at par auction rate securities sold by it to its retail clients.

For Citigroup, the settlement will hinder efforts by Chief Executive Vikram Pandit to slash costs and restore profitability following $17.4 billion of losses in the last three quarters.

"It's really a face-saving attempt," said Brian Yelvington, an analyst at CreditSights in New York. "If Citi is able to pull this off, the other banks that have sponsored these programs could be under pressure to do something similar."

Auction-rate debt has interest rates that reset through periodic auctions, typically held every seven, 28 or 35 days. The market was once considered safe, but much of it remains frozen after Wall Street brokerages stopped supporting the debt.

The market seizure resulted in higher borrowing costs for state and local governments, hurting taxpayers.