Interbank funding costs ease, cash still hoarded

By Kirsten Donovan

LONDON (Reuters) - The rates banks charge each other to borrow funds fell on Tuesday, helped by a calmer mood in financial markets, but banks are still hoarding cash to offset losses on riskier assets and the pace of decline remained slow.

The cost of borrowing dollars, euros and sterling fell as equity markets ticked higher after the panicked selling of recent sessions and with the market primed for widely expected central bank interest rate cuts.

But strategists and traders said that while interbank rates were falling, there was still no life in the market and the thin flows were attributable mostly to arbitrage trades related to foreign exchange swaps, rather than true bank to bank lending.

"Rates are coming down but it's less desperation to borrow rather than more willingness to lend," said Calyon rate strategist David Keeble.

London interbank offered rates (LIBOR) for overnight dollars fixed 3 basis points lower on Tuesday at 1.235 percent, with three-month rates 4 basis points lower at 3.465 percent. Sterling and euro rates also eased across all maturities.

Tullett Prebon's head of G7 market economics Lena Komileva said the declines in rates -- which have lost momentum recently -- did not indicate a meaningful improvement in money market liquidity despite governments around the world agreeing to inject more than $4 trillion (2.5 trillion pounds) into banks to contain the financial crisis.

"This is not about transaction and counterparty trust, this is about acute fears over emerging market risk and sharp declines across asset classes puncturing bank asset ratios and increasing demand for liquidity," Komileva said.

"We need to see a broad based stabilisation in asset markets before we see liquidity demand reaching a plateau or get a substainable, convincing improvement in Libor rates."