Signs of bank funding stress grew on Thursday as the eurozone sovereign debt crisis seeped deeper into countries such as France and markets looked to the European Central Bank to take more dramatic action Italian bonds yields held above 7 percent despite more ECB bond buying while the premium investors demand to hold French 10-year government bonds rather than German Bunds topped 2 percentage points.
With a Fitch Ratings report highlighting concerns over US banks' exposure to eurozone debt, banks showed little willingness to lend to one another. ECB officials have repeatedly said they will not engage in unlimited, unsterilised bond buying, which would effectively be the quantitative easing already undertaken by the Federal Reserve and Bank of England, despite many in the market viewing it as a necessary step to contain the growing crisis.
It is, however, supplying a large section of the banking sector with liquidity as other sources of funding dry up. Gross liquidity in the eurozone banking system is at its highest since July 2010 at almost 690 billion euros, according to Morgan Stanley, nearly 300 billion more than requirements.
Weekly borrowing jumped by more than 35 billion euros this week alone, linked to the rise in the cost of borrowing using Italian government bonds as collateral in the secured lending market last week. Banks with excess funds who cannot use the ECB's overnight deposit facility were lending only to top-rated European banks, otherwise preferring to look outside the eurozone.
Benchmark three-month Libor and Euribor rates ticked higher with the spread of three-month Libor rates over equivalent overnight indexed swap rates - a measure of market stress - around its highest since early 2009. The premium for swapping euros into dollars rose further with the three-month cross-currency basis swap around 6 basis points wider at -136 basis points, the most since the 2008 financial crisis.