Long-Term Libor Rate Jumps Despite Rate Cut

The interbank cost of borrowing overnight cash fell on Thursday in response to coordinated global interest rate cuts and other myriad steps from authorities Wednesday to unfreeze money markets, but longer-term funding costs stayed high.

The British Bankers Association's latest daily fixing of London interbank offered rates showed the cost of overnight dollar, euro and sterling funds all fell substantially, but by less than half percentage point.

That was the size of rate cut delivered by the Federal Reserve, European Central Bank and Bank of England on Wednesday as central banks around the world acted in unison to fight the deepest financial crisis in 80 years and stave off recession.

Overnight euro Libor was fixed lower at 3.93625 percent, close to the ECB's new 3.75 percent target.

• For Live Libor Data

But overnight dollar Libor at 5.09375 percent and overnight sterling at 5.41875 percent were still significantly above the Fed and BoE's targets of 1.5 percent and 4.5 percent, respectively.

Indeed the cost of borrowing dollars for any period beyond overnight rocketed—three-month dollar Libor hit its highest this year—as banks continued to scramble for greenbacks to cover dollar positions, exposure and fund dollar assets.

The premium for three-month Libor funding over expected policy rates in all three currencies, key measures of the cost of funding throughout the financial system and therefore financial market stress, widened significantly.

The continued money market dislocation came despite the coordinated rate cuts and unilateral steps taken by several countries and monetary authorities.

The ECB, for example, halved the premium it charges banks for emergency overnight borrowing, upped the amount it pays on overnight deposits and offered unlimited weekly funds at a fixed rate.

"We're not seeing any relief in term Libor fixings which tells us that the rate cut has exclusively impacted on the overnight market but it hasn't touched the Libor market at all," said BNP Paribas rate strategist Alessandro Tentori.

"And that's not a very good sign," he added.

All Around the World

The Bank of Japan and Reserve Bank of Australia carried out major short-term liquidity injections on Thursday to help ease the credit squeeze, and the BoE and ECB followed up by pumping billions more short-term dollar funds into the system.

For more on the global policy responses to the crisis including the coordinated rate cuts, ECB measures, Britain's banking package and indications the U.S. could copy elements of it.

But actual lending beyond a week or two remained frozen despite authorities' best efforts, traders said, adding it will take time for the wheels to start turning.

"They're doing what they can. But it's like a donkey in the field: you give it lots of carrots but it doesn't mean it will pull the cart along," said the head of rates trading at a large bank in London.

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The only interbank activity at time horizons of a month or more is in the sovereign and supranational sphere, he said.

Three-month dollar Libor was fixed at 4.75000 percent, its highest this year.

Three-month euro Libor posted its first decline in almost a month but at 5.38625 percent remained near Wednesday's record high.

Three-month dollar, euro and sterling Libor spreads over expected policy rates measured by average Overnight Index Swaps—known as Libor/OIS spreads—are also at historic levels.

The dollar Libor/OIS spread rose around 30 basis points to 350 basis points, the highest in years.

Euro and sterling Libor/OIS spreads also blew out.

Interbank deposit rates are merely indicative prices and not necessarily the rates at which banks actually lend to each other.

The once-a-day Libor fix is also an indicative rate, but is a global reference point for trillions of dollars of contracts for financial, corporate and household borrowing.

Copyright 2008 Reuters. Click for restrictions.