You’re looking at two indicators of interbank funding pressures.
The first is 3-month US dollar Libor. The second is the five-year euro-dollar basis swap, a basic gauge of demand for US dollars, which we’ve mentioned before. Both are in ‘stress-mode,’ in their own ways.
Libor is up, and the euro-dollar basis swap is even more negative.
Given that central banks have been swift to flood the financial system with liquidity, the persistence of interbank and dollar funding pressures might be considered a touch odd. But according to the banks themselves (ahem) it’s pretty obvious: central bank dollar liquidity is just too expensive.
Here’s BNP Paribas:
The rise of the 3 month USD Libor, signalling that there is a shortage of USD term funds, can be addressed by central banks, but so far banks have provided currency swaps at penalty rates only. That could be a mistake and may keep the USD term money market tight, pushing the USD even higher.
And Barclays Capital:
Libor rates set higher yesterday and the EUR/USD cross currency basis swap level continues to move more negative, both indicating that USD funding stresses persist. While the use of the Fed’s currency swap program remains light, this is more a reflection of its expensiveness – at 100bp over OIS, it is still more than double prevailing Libor rates. Our fixed income strategists highlight other evidence of stressed dollar funding outside of elevated Libor rates – such as the decline in Treasury holdings and the recent heaviness in repo. The development of funding conditions will be crucial for risky asset prospects – our fixed income team expects 3m Libor to move to 60bp within a week or two (currently at 51bp). Beyond that, however, funding costs will depend on whether financial markets can successfully force central banks to provide more liquidity – either in dollars or euros. But given their pain thresholds, that may require 3m Libor moving above 75bp. All things equal, and assuming that neither the Fed nor the ECB makes any changes to its current liquidity provisions, the theoretical maximum for dollar Libor is equal to the Fed’s swap line – 100bp over OIS (or about 1.25%). Until there is some stabilisation or pull-back in interbank funding costs, it seems unlikely that risky assets will recover significantly.
Some food for thought as financials complain about the consequences of higher Libor.
Related links:
Libor’s slow grind higher – FT Alphaville
‘Heightened levels of interbank funding could be with us for some time’ – FT Alphaville
Lehman-Greece parallels du jour (II) - FT Alphaville