Money market frozen as bailout stalls, cbanks act

(Adds detail, quotes, central bank action, background)

By Jamie McGeever

LONDON, Sept 26 (Reuters) - Money markets remained paralysed on Friday, despite increased liquidity injections from central banks around the world, as U.S. political wrangling appeared to stall the passing of a $700 billion bailout plan.

Dollar borrowing rates stayed high and premia paid over U.S. government borrowing rates wide, particularly for three month money, as nervous investors awaited to see if the U.S. government plan will be passed, and if so, how it will look.

The money market stress was exacerbated by the looming quarter end is looming. Any three-month lending now will mature over the Christmas period, when markets are either closed or highly illiquid.

"There is no term lending of note between counterparties. Any term funding there is coming from the central banks," said Meyrick Chapman, rates strategist at UBS.

In early London trade on Friday the interbank cost of borrowing dollars for three months was indicated at the upper end of a wide range between 3.7 and 4.8 percent .

Thursday's fixing of three-month London interbank offered rates by the British Bankers Association was 3.76875 percent , and ICAP's three-month dollar New York Funding Rate was 4.2182 percent .

The closely-watched TED spread, or the difference between these market-based dollar rates and three-month U.S. government borrowing rates, was at the upper end of a range between 350 and 400 basis points.

The spread, a gauge of risk aversion and tightness in short-term lending, ballooned last week to almost 500 basis points, the widest in over a quarter of a century.

The bank-to-bank premium for borrowing three-month dollars over anticipated official policy rates or Overnight Index Swaps, known as the Libor/OIS spread, held around 200 basis points. It was a mere 80 basis points at the start of the month.

The three-month sterling Libor/OIS spread held around 155 basis points, and has more than doubled over the month.

These spreads are seen as a key indicator of financial market stress and risk aversion, reflecting the true cost of funding for banks and financial institutions.

Some 60 percent of corporate lending is tied to London interbank offered rates (Libor), according to Credit Suisse.

To help ease the unprecedented strains in money markets, central banks in Asia provided dollar and local currency liquidity, the Federal Reserve expanded its currency swap operations with the European Central Bank and Swiss National Bank, and the Bank of England said it would extend its dollar liquidity provisions.

The ECB said it would provide $35 billion, the BoE offered $30 billion of one-week funds and the SNB said it would inject $9 billion.

For more on liquidity provisions, see [ID:nSP346519] and for more on the bailout talks in Washington see [ID:nSP375703].

In the interest rates swaps market, the two-year dollar swaps spread was around 150 basis points compared to Wednesday's record high of around 162.

That spread had fallen late on Thursday to around 135 basis points on optimism an agreement between Congressional Republicans and Democrats would be reached, only to widen back out again on the gridlock. Swaps spreads are widely seen as an indicator of investor risk aversion and financial market turmoil: the wider the spread, the greater the stress. (Reporting by Jamie McGeever, editing by Mike Peacock)