MONEY MARKETS-Dollar Libor, U.S. rates crunched by liquidity

* Dollar Libor at new low, other market rates fall

* Abundant liquidity, dovish central bankers support

* BoJ leaves rates unchanged as deflation returns

By Kirsten Donovan

LONDON, Nov 20 (Reuters) - Dollar interbank lending rates
hit a new record low on Friday as an abundance of liquidity and
dovish central banker comments squashed short-term market rates.

U.S. short-dated rates fell further as the market took the
view that policy rates will stay low for a long time, despite
policy makers beginning to talk about exit strategies from
extraordinary measures put in place during the financial crisis.

Two-year U.S. interest rate swaps USDAM3L2Y= have fallen
below 1 percent for the first time to as low 0.9690 percent.

The rate reflects the fixed-rate interest stream a bank or
broker will pay against a floating rate of interest.

Three-month T-bill rates US3MT=RR and two-year cash yields
US2YT=RR held close to their lowest since December, which in
turn represent the lowest levels on record.

"Flow information suggests central banks buying T-bills and
short-term Treasury cash even at very low yield as cash is
abundant," said BNP Paribas rate strategist Alessandro Tentori.

Calyon rate strategist David Keeble said year-end factors
were also at play as banks tidied up balance sheets to present
the best possible view of their business at the end of the year.
"It's a little bit of window dressing, to do with needing
liquidity on the balance sheet. You liquidate some securities
and buy something low-risk like Treasuries so you get a bit of a
squeeze," he said.

Three-month dollar Libor rates USD3MFSR= fell to 0.26219
percent [ID:nLK442537].

Eurodollar interest rate futures EDM0EDU0 -- a measure
of interest rate expectations -- have been climbing steadily
since late October, reaching contract highs and implying lower
rates, on the back of dovish central bank comments.

SLOWLY, SLOWLY TO THE EXIT

European Central Bank officials have also stressed that
while they are heading for the exit, the withdrawl of special
measures to provide liquidity to the banking sector and in turn
boost the ecomony, will be gradual.

But recent comments appear to warn banks against becoming
too reliant on ECB funds.

ECB President Jean-Claude Trichet warned on Friday that
market participants needed to be aware that the size of support
measures was unprecedented and any measures which posed a threat
to stability would be undone "promptly and unequivocally."

And ahead of the bank's next, and likely final, tender of
one-year funds in December Executive Board member Lorenzo Bini
Smaghi late on Thursday urged national authorities to address
over-reliance on cheap, unlimited ECB funds by some banks.

The Greek central bank this week did just that, advising
banks to show restraint in borrowing 12-month ECB funds.

Banks currently have 595 billion euros of longer-term ECB
money, over 85 percent of which is in 12-month funds, and there
is around 60 billion euros of excess cash in the system, most of
which is being parked back at the central bank overnight.

Three-month Euribor rates EUR3MFSR= edged down to 0.67313
percent.

In Asia, the Bank of Japan kept rates on hold at 0.1 percent
as expected and upgraded its economic assessment, setting itself
up for a confrontation with the government [ID:nT263401].

The Japanese government published a report that pronounced
the economy officially in deflation for the first time since
2006, and a minister said he expected an "appropriate" policy
response from the BOJ.