The largest financial rescue package in history has so far failed to rally stock market investors or unlock frozen money markets despite receiving a cautious welcome from many economists and bankers.
European stock markets fell sharply again yesterday, with US share prices down for a sixth day, while there was almost no discernible improvement in banks' willingness to lend to one another or to companies and individuals, the problem at the heart of the crisis.
The announcement by the Bank of England, the US Federal Reserve, the European Central Bank (ECB) and the central banks of Canada, Sweden and Switzerland that they were all making an emergency interest rate cut of half a percentage point provided markets with some temporary respite at lunchtime. Even China joined the move, with a 0.27 percentage point cut in rates.
But the combination of this action and the Government's announcement that it was prepared to spend £50bn recapitalising British banks did not prevent the FTSE 100 index ending the day more than 5 per cent down. European stock markets registered broadly similar falls.
Sean Maloney, an analyst at the Japanese investment bank Nomura, said: "We are clearly in a situation of extreme pessimism and it's difficult to see what can jolt these markets out of the current malaise."
Nor was there any respite in the money markets, despite a widely held view in the City that while the Government's investments in Britain's largest banks were eye-catching, its additional announcements on wholesale funding were potentially more significant in dealing with the credit crisis.
The expansion of the Bank of England's Special Liquidity Scheme will provide banks with the option to borrow a further £100bn of three-month funding from the plan, while the Government has also agreed to guarantee short-term loans worth up to £250bn taken by the eight banks signed up to its capital raising proposals.
The guarantees will be available to Abbey, Barclays, HBOS, HSBC, Lloyds, Nationwide Building Society, Royal Bank of Scotland and Standard Chartered. These banks would pay a fee in return for being able to issue bonds and other securities repayable at varying terms of up to three years, with the Government standing behind the debts. In theory, the Government backstop should eliminate the suspicion and anxiety that has brought inter-bank lending to a standstill in recent months. David Keeble, head of interest rates strategy at brokerage Calyon, said: "This is the wow factor."
In practice, however, there was no immediate respite in the inter-bank loan market yesterday. The British Bankers' Association said Libor, the rate at which banks lend to each other, had actually risen in the hours after the Government announcement, with the cost of loans for some terms hitting new records.
Stephen Lewis, an economist at Monument Securities, said one problem was that British banks only represent around half of the key players in setting the cost of inter-bank lending. But he added that Gordon Brown's call for other countries to introduce a similar policy might help. "Some European countries may choose to follow the UK example," he said. "The more that do, the less risk of contagion there will be."
Other money market indicators also suggested the measures announced in the UK and worldwide had had relatively little immediate effect. The Ted Spread, the difference between the rates paid by banks to borrow from one another and the yield on US Treasury bills, regarded as the safest of all assets, rose to a 10-year high yesterday. The Libor-OIS spread, another widely followed measure of the supply of liquidity, also rose sharply.
There were some tentative signs in the US yesterday that interest rate cuts had begun to help at the margins, with the cost of some commercial paper – overnight loans to companies to help with cashflow – falling fractionally for the largest, most creditworthy companies. However, Tony Crescenzi, a bonds specialist based in New York, said: "I believe the reaction of short-term funding markets has been very small – it's hard to even call the reaction positive."
Nevertheless, some economists said the sheer scale of the package of rescue measures announced both in the UK and by international central banks would have a positive impact, both on money markets and on stock market investors, who have become increasingly concerned about the prospects of a much deeper global recession than previously feared.
Paul Dales, UK economist at Capital Economics, said: "This is a major step towards convincing the world they are serious about stabilising the current crisis." Robert Dye, a senior economist at PNC Financial Services, said: "These credit market conditions did not happen overnight and it's not going to be resolved in one night either."
However, there were also dissenting voices, with strategists warning that the global economy was now entering unchartered waters.
Peter Dixon, an economist at Commerzbank, said: "Will it help? Only time will tell. Will it help the markets? Questionable in the short term. Will it help the economy? No, because basically we have got to work through the next weeks, months and years to find out exactly what the implications of recent events are going to be."Reuse content