Interbank lending not freed by rate cuts

Money market tensions remained elevated on Thursday in spite of the globally co-ordinated cut in interest rates and other significant central bank moves to improve global financial and corporate liquidity.

US commercial paper markets continued to shrink at a rapid rate, though not quite as a fast as recent weeks, while interbank lending rates rose in many maturities longer than the very short-term, increasing the spread over prevailing interest rates.

However, there was positive news in the decline in yields on commercial paper, with the rate on the safest one-day debt down by 115 basis points to 2.35 per cent.

Bankers and analysts said the radical moves to shore up UK banks and enhance liquidity across Europe taken this week, and the US Federal Reserve's new facility to pump money into the corporate commercial paper market would take a few days before the effects could start to be judged.

US commercial paper markets saw a further $56.4bn pulled out of the market in the week to Wednesday, the Federal Reserve reported, slowing the haemorrhage rate of recent weeks, although non-financial corporate commercial paper outstanding grew by $3.5bn.

"The [Fed] announcement backstopped the commercial paper market, as evidenced by today's data, which show that the bleeding slowed, and today's decline in overnight commercial paper rates," said Tony Crescenzi of Miller Tabak.

However, he said $264bn had still been pulled out of US CP markets over the past four weeks and that such a decline was more serious than a year ago, when the market was purging issuers with mortgage-related exposures.

"This time the purge is broad and is impacting issuers with far more predictable cash flows – regular run-of-the-mill companies in need of working capital," he said.

Meanwhile, interbank lending rates had a mixed reaction to increased central bank liquidity measures and the 50bp rate cuts in the US, UK, eurozone, Switzerland, Sweden and Canada.

Overnight libor in the euro and sterling declined by nearly the full amount of the interest rate cut, while overnight dollar Libor fell by just 28bp. Three-month dollar Libor however rose by almost 23bp to 4.75 per cent, which increased the spread over the swap rates that reflect interest rate expectations to 350bp from 293bp.

Analysts said that while a cut in rates had brought a marginal increase in the opportunity cost of hoarding cash, it would be unlikely to have a direct immediate effect on Libor rates.

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