Central banks in the world's leading economies pumped money for a third day into the financial system on Monday, but in smaller amounts as investor nerves steadied over the dangers of a credit squeeze.
The European Central Bank lent out an extra 47.67 billion euros ($65.29 billion) in overnight funds, its smallest amount since lending rates shot up last Thursday on fears European banks faced huge exposure to risky U.S. mortgage debt. The ECB noted that markets were beginning to return to normal.
Certainly the ECB borrowing rate was back to the central bank's benchmark level and stock markets were rallying.
The ECB action followed a $5.1 billion injection in one-week funds by the Bank of Japan and promises by Asian central banks to follow suit if needed, helping to support stocks in Asia and Europe.
The U.S. Federal Reserve also topped up its market with $2 billion in extra cash on Monday. That was far less than banks requested and way below the $38 billion injected on Friday, the largest amount for any single day since September 19, 2001.
The Bank of Canada followed suit and reduced its injection, adding C$670 million, or $638 million in U.S. dollars, down from C$1.685 billion on Friday.
Despite signs of markets stabilizing, analysts said they were unconvinced the credit turmoil was over and more central bank intervention was likely to be needed on a lesser scale as banks reassure investors about their exposure.
Actions by the ECB and Fed so far appear only to have been buying time, Barclays Capital economist Julian Callow said.
Central banks are doubtless hoping to inject successively less liquidity in each day, that as each day passes more time is bought for the true credit position of financial institutions to be correctly recognized, and therefore for more normal liquidity provision to be restored.
Indeed, European money markets were flush with cash in afternoon trade. Overnight money bid was as low as 3.90 percent, compared with 4.6 percent during Thursday's squeeze and below the ECB's benchmark rate of 4 percent.
Demand for U.S. dollar deposits, however, remained strong with the federal funds rate at 5.31 percent, 9 basis points above the Fed's target and U.S. deposit rates for Tuesday delivery were around 5.51 percent.
Wall Street opened on a positive footing, with the Dow Jones industrials index up 0.58 percent while most European stock indices were up more than 2 percent following gains in Tokyo where stocks ended Monday trading up 0.2 percent.
The ECB had sent a reassuring message early in the day.
The ECB notes that money market conditions are normalizing and that the supply of aggregate liquidity is ample, it said via its market pages. The ECB said later it was prepared to also add extra funds at its regular weekly tender to help even out markets. Bids for this are due on Tuesday.
Central bankers cumulatively have so far injected a massive and unprecedented amount of roughly $400 billion into money markets that had almost seized up in panic over exposure to complex credit derivatives linked to defaulting U.S. mortgages.
The money, however, is temporary and did not flood in all at once, rather the short-term lending to banks is repaid usually the next day.
But one central bank taking a harder line, the Bank of England, said it would not lend cheaply to banks feeling the squeeze from the current financial market turmoil and its standard emergency lending rate of 6.75 percent applied.
Investors' main worries are undisclosed losses resulting from toxic debt that could trigger the collapse of banks and funds. It is this concern that has prompted banks to hoard cash rather than lend it to each other in short-term trades as usual, making interbank lending expensive.
The major problem appears to be in Europe, where industry sources said central bankers in Europe held weekend talks with bank supervisors and financial executives to assess the dangers from risky mortgage debt to the financial system.
Over the weekend, Deutsche Postbank, Germany's biggest retail bank, was the latest big financial institution drawn into the subprime morass when it disclosed 600 million euros ($822 million) in exposure to two investment vehicles run by hard-hit German bank IKB.
The ECB on Monday provided funds to 59 banks at between 4.06 and 4.10 percent, just above its 4 percent benchmark official rate, and markets are now backing down on expectations that it will raise credit costs in September.
South Korea also started disclosing exposure. Its finance ministry said it was ready to supply emergency funds if credit dried up. The country's banks and insurers have invested $850 million in the U.S. subprime mortgage loan sector, it said.
Malaysia's central bank said it was prepared to step in but added it had no specific plans to do so.
However, Australia's interbank market showed no signs of stress. The Reserve Bank of Australia (RBA) injection of A$1.52 billion ($1.3 billion) in its daily money market operation on Monday was slightly less than average. The RBA rated as low the risk that a credit squeeze could crimp the U.S. economy and drag on the world outlook.