Banks set to raise reservesin bid for crisis funds

Libor rate at nine-year peak w Alliance & Leicester allays fears on US exposure
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The Independent Online

Banks are poised to draw on a crisis Bank of England liquidity facility in response to the paralysis in money markets, which took a firmer grip yesterday.

This would involve depos-iting greater reserves with the Bank of England under a framework designed to deal with an effective closure in money markets.

The interest rate on three-month Libor rose to 6.8 per cent, a new high since at least 1998. The rate also outstripped the Bank of England's penalty rate for emergency overnight borrowing, and, though the rates are not directly comparable, analysts said the milestone was a sign of rising unease.

The money markets have seized up in recent weeks as banks and investors have been gripped by fear after defaults on securities linked to US mortgages caused massive losses for banks in the US, Germany and elsewhere. Interest charged on loans that banks once made to each other as a matter of routine have rocketed on concern about exposure to US sub-prime mortgages and complex credit funds.

The Bank of England has refused to take direct action to bolster confidence in the money markets, as the European Central Bank and the US Federal Reserve have done, preferring to let lenders take responsibility. British banks can request more money from the Bank of England by raising their monthly reserve targets. The banks submitted their reserve targets yesterday and they will be revealed today.

Three-month Libor rose above the 6.75 per cent rate the Bank of England charges banks – a point above base rate – to use its overnight standby facility. Little attention was paid to it until the recent credit rout when Barclays used it twice in two weeks, though Barclays said neither time was because it was in difficulty.

The credit funds, known as structured investment vehicles (SIVs), have also suffered from the drought in the credit market as investors have shunned the short-term commercial paper they used to support investments in high-yielding assets. Credit analysts at Dresdner Kleinwort said they expected more funds to report trouble financing their business in the money markets.

Alliance & Leicester was the latest bank to try to reassure the market. It issued a statement yesterday about holdings at its treasury division. The mortgage lender said its aggregate exposure to investment vehicles containing US sub-prime mortgage assets was £175m, with 99 per cent of these gaining the top rating from credit rating agencies and none downgraded. "Current conditions in the funding and liquidity markets have had no material impact on either profits or franchise growth," A&L said.

Analysts said the statement was helpful but that investors were really looking for statements from Britain's big players in the debt markets, particularly Barclays and Royal Bank of Scotland.

"They have been put under a lot more pressure from A&L's statement. There is definitely investor pressure to get it out there," a banking analyst said.

Barclays president Bob Diamond has reassured the market that there is "no black hole" at Barclays. Mr Diamond will meet staff at Barclays Capital tomorrow.

Germany's biggest bank, Deutsche Bank, added its voice to those trying to reassure the market. Josef Ackermann, its chief executive, said: "I am optimistic about the environment globally for financial institutions." Though he added the bank's trading and corporate finance divisions were affected by the recent turbulence. Germany's banks have been major casualties of the sub-prime crisis, with smaller lenders IKB and Sachsen LB requiring bail-outs to keep them from imploding.