The European Central Bank added extra funds to markets for a fourth day on Tuesday but on a smaller scale, as central banks slowly pull out extra cash pumped in to avert panic about a credit squeeze. Asia''s central banks were back to business as usual and although investors remained cautious, there was little sign of the frantic selling of late last week.
European shares fell 0.6 percent, but this followed the biggest one-day rally in 15 months on Monday. The fall was in line with moves in the United States and Asia, where stocks slipped but bonds edged up as risk appetite remained weak.
The ECB said money market conditions were now close to normal, following concerted action by central banks around the world which have added hundreds of billions of dollars of temporary cash since last week.
"The central banks acted quickly to keep the banking system ticking over and that''s helped avoid a dramatic liquidity squeeze," said Peter Jolly, head of research at nabCapital.
"But people are clearly still nervous, wondering where the next body is buried." In a clear sign that the scramble for cash is easing, the Bank of Japan drained 1.6 trillion yen ($13.6 billion) from the country''s banking system in two operations, reversing two days of injections as surplus funds drove down the call rate.
The ECB, for its part, withdrew a net 40 billion euros ($54.78 billion), lending out 7.7 billion euros for one day. It was the fourth such special operation since last Thursday, but each has been smaller than the previous one as market jitters have eased.
The money tides banks over until the start of the ECB''s regular weekly tender on Wednesday, which will provide 310 billion euros, a 74 billion euro premium to estimated liquidity needs.
European money markets were little changed on the day. Overnight money bid was 4.02 percent at 1030 GMT, compared with as much as 4.6 percent during Thursday''s squeeze, and just above the ECB''s benchmark rate of 4 percent.
"It''s miles better than Thursday or Friday," a money market trader at one euro zone bank said. Another trader echoed this view, saying: "The market liquidity situation at the moment, in euros as well as dollars, seems as good as normal."
RETURN TO NORMAL: Central banks have now withdrawn most of the extra cash pumped into markets to calm panic over exposure to complex credit derivatives linked to defaulting US mortgages, since it was made up of short-term lending to banks that must be repaid the next day.
The US Federal Reserve topped up markets with just $2 billion in extra cash on Monday, 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 has also progressively cut the size of its liquidity injections and in Australia, the central bank''s money market operations were back to something like normal on Tuesday. The Reserve Bank of Australia (RBA) added A$2.6 billion ($2.2 billion) in its regular operation, which was a little higher than average but modest compared to Friday''s A$4.9 billion injection.
Still, news that more financial institutions have been hit by the mortgage problems kept the mood tense. Investment bank Goldman Sachs Group Inc said it would spend $3 billion to prop up a hedge fund that had been hammered by the recent market turmoil.
Australian mortgage lender RAMS Home Loans Group said it could suffer if the volatility in debt markets continued. Switzerland''s UBS, the world''s largest wealth manager, which delivered record earnings for the second quarter of the year, but warned that the upheaval in credit markets is likely to take a heavy toll if turbulent conditions prevail throughout the third quarter.
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