Australia rate cut stuns

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Australia rate cut stuns, markets thirst for more
Tuesday October 7, 7:19 am ET

By Wayne Cole and Kevin Yao

SYDNEY/SINGAPORE (Reuters) - Australia stunned markets with its steepest interest cut in 16 years on Tuesday and investors expected that other central banks would follow suit in a coordinated move to combat the global credit crisis.

The 1 percentage point reduction in the Reserve Bank of Australia's benchmark rate was twice as big as expected, underscoring the increasingly strong medicine needed to jolt the world's financial markets back to health.

"It looks to me that the RBA's rate cut was no fluke," said Suresh Kumar Ramanathan, head of strategy at CIMB Bank in Kuala Lumpur.

"It means the rest of the global central banks may have had a teleconference to up the rate cut story. Bottomline, it's a strong signal to the market that unified action will come after all," he said.

The Bank of Japan held its benchmark interest rate at 0.5 percent, as analysts had expected, but played up the risk of global market turmoil. Its more cautious tone about the economy at home left the door open for an interest rate cut.

Investors expect the Bank of England to cut rates at its policy meeting this week and are pricing in cuts from the U.S. Federal Reserve and the European Central Bank in the near future.

Fed fund futures have priced in a probability of a 75 basis-point cut by the U.S. central bank this month.

Federal Reserve Bank of Dallas President Richard Fisher, considered an inflation hawk, said capital markets were in "semi-panic."

"What I'm more worried about is how dysfunctional the system has become and what we, as the lender of last resort, need to do to encourage the liquidity to flow," he said.

Australia's central bank Governor Glenn Stevens said the unusually large move was justified by a severe deterioration in the outlook for global growth, combined with a sharp rise in funding costs for banks.

He cautioned that moves of this size would not be the norm, but left the door open for further easing in the months ahead.

STEEP FUNDING COSTS

Dollar funding costs remained elevated on Tuesday, as liquidity injections and reassurance from governments proved cold comfort for banks deeply fearful of lending to each other.

In London three-month dollar and euro funding on the interbank market, which now extends over the illiquid year-end holiday period, remained substantially higher than anticipated official interest rates, a key measure of financial market stress.

At 0740 GMT the interbank cost of borrowing dollars for three months was indicated at 5.29 percent, the upper end of a 3.7 and 5.5 percent range so far in London.

Monday's fixing of three-month London interbank offered rates by the British Bankers Association was 4.28875 percent, and ICAP's three-month dollar New York Funding Rate was 4.6350 percent.

Overnight dollar deposit rates were indicated around 2.5 percent, fairly close to the Federal Reserve's 2 percent target rate. In September after U.S. investment bank Lehman Brothers collapsed, these rates jumped above 10 percent.

In Asia nervous investors pushed the currency of the highly leveraged South Korean economy to seven-year lows, despite officials there dismissing talk of a currency crisis.

India's central bank lowered the amount of money that commercial banks must keep on reserve to ease a cash squeeze.

Central banks have added billions of dollars into money markets in the past few weeks as the financial turmoil led commercial banks to hoard cash, instead of lending to each other.

But traders said authorities would have to provide some sort of lending guarantees to placate jittery money markets, particularly as the year-end approaches.

"People are a bit fearful of the year end because of redemptions and because of the natural urge for all financial institutions to be liquid at the end of the year," said an analyst in Singapore.
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