Central banks strain to contain market crisis

By Mark Felsenthal, Kerstin Gehmlich and Chikako Mogi

WASHINGTON/BERLIN/TOKYO (Reuters) - Central banks pumped emergency funds into world financial markets for a second day on Tuesday in an increasingly fraught effort to contain the fallout from the crisis sweeping Wall Street's biggest firms.

The injection of hundreds of billions of dollars into money markets to stop them freezing up failed to prevent a surge in the cost of borrowing between banks, in some cases on a scale unseen even when the global credit crunch hit in August 2007.

Stocks extended their slide, with Europe's FTSEurofirst index hitting a three-year low at one stage as investors fretted over events on Wall Street, where Lehman Brothers, once thought too big to fail, filed for bankruptcy protection on Monday, and where another giant, insurer AIG, is seeking survival help.

"It's clear that this financial market crisis is the worst worldwide in decades -- and it is not over," Germany's finance minister, Peer Steinbrueck, told parliament.

The Federal Reserve pumped in $50 billion into the markets on Tuesday, following up on the $70 billion it provided on Monday, and said it was ready to do more.

There was even market speculation that the Fed could reduce interest rates by as much as a half percentage point at a meeting it was holding on Tuesday.

The European Central Bank injected 70 billion euros ($98.09 billion) into money on Tuesday, after 30 billion the day before. Demand from banks for Tuesday's funds, a measure of how much other sources of liquidity are drying up, topped 100 billion.

In Britain, the Bank of England injected 20 billion pounds ($35.21 billion), after five billion on Monday. Demand was three times the amount of extra liquidity offered on Tuesday.

WHEELS SLOWING

The cost of borrowing dollars overnight, as revealed by the LIBOR (London interbank offered rate) fixing, more than doubled to 6.43750 percent from 3.10625 on Monday, its highest since January 2001, the latest fixing by the British Banker's Association on Tuesday showed.

"This is much worse than August last year," said one market source, referring to the day the credit crunch snowballed out of the United States, forcing central banks to launch emergency liquidity operations.

Asian central banks also rolled into action, with those of Japan, Australia and India flooding money markets with cash. The region's banks doled out $17 billion, following Monday's $70 billion Federal Reserve injection.

The Bank of Japan made its biggest cash injection in almost six months -- 1.5 trillion yen ($14.2 billion) -- and the prime minister met top financial policy makers to discuss events.

The rates at which banks lend to each other jumped in South Korea too, and in the financial hub of Hong Kong, while Asian stock markets, many of them closed for a holiday on Monday, tumbled and currencies whipsawed.

FED CUT?