Money markets swaps spreads tighten, libor falls on ecb hopes

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NEW YORK, July 31 Two-year interest rate swap spreads have rallied to their tightest levels in a year and the three-month dollar London interbank offered rate dropped to its lowest since November on Tuesday. The moves happened on increased expectations that the European Central Bank will cut interest rates, which in turn will reduce bank borrowing costs. ECB President Mario Draghi said last week the ECB would do "whatever it takes" to stem the region's spreading debt crisis, spurring expectations that the central bank will implement a bond purchase program at Thursday's policy meeting. The ECB is also seen as mulling another rate cut, though some see the central bank as more likely to wait as it assesses the impact of its July cut to a record low 0.75 percent. "There are broad expectations of an ECB rate move and possibly more liquidity or bank lending moves that should lower (borrowing) costs for European banks," said Jim Vogel, interest rate strategist at FTN Financial in Memphis, Tennessee. Some investors are also expecting the U.S. Federal Reserve could follow the ECB in cutting the interest rate it pays on bank reserves, which has helped send two-year Treasuries yields down by a third in the past month. The Fed will give the official statement from its two-day meeting on Wednesday. Two-year swap spreads, which are a proxy of bank credit risk and reflect future expectations of interest rates , have tightened to 19.50 basis points from 23.50 basis points early last week, before Draghi's comments. The spreads have rallied from a recent wide of 38.50 basis points in May. The cost that banks report that they can borrow three-month unsecured dollars loans from each other has also fallen to around 44 basis points from 45 basis points early last week and around 47 basis points in mid-to-late June. Among the banks posting the largest drops in the Libor panel, JPMorgan cut its reported borrowing rate to 34 basis points from 35 basis points early last week and from 42 basis points at the beginning of the month. Credit Suisse has also cut its reported rate to 36.5 basis points from 39 basis points early last week, and from 41 basis points earlier this month. British bank Lloyds cut its rate to 43 basis points from 45 basis points earlier last week, and from 50 basis points at the beginning of the month. Barclays, by contrast, has increased its rate to 39 basis points from 34 basis points early last week. Barclays has been at the center of the Libor scandal that is expected to bring scrutiny to other banks on the Libor reporting panel. Barclays agreed last month to pay fines to U.S. and British regulators to settle charges that the bank reported false rates in order to benefit its trading positions and disguise its rising borrowing costs during the 2008 financial crisis.