ECB rise not certain as Asia subprime fears grow
NEW YORK/LONDON (Reuters) - Central bank officials said market turmoil made a euro zone rate rise far from certain while three Asian banks' heavy exposure to the limping U.S. home loan sector reinforced global credit worries on Friday.
In the U.S., the Federal Reserve refrained from open market operations ahead of a weekend for the first time since May, helping steady markets, while economic data from July pointed to economic strength just before credit markets began to tighten.
Major U.S. share indexes rose more than 1.0 percent as unexpectedly strong data on home sales and durable goods relieved anxiety about the economy.
Earlier in the day, national central bank officials told Reuters the ECB was focusing on financial market turbulence, saying it would be the decisive factor in determining whether it raises rates by a quarter point to a six-year high of 4.25 percent.
Investor nerves were kept on edge as Singapore's DBS Group Holdings (DBSM.SI), state-controlled Bank of China (3988.HK) and its Hong Kong subsidiary, BOC Hong Kong (2388.HK), revealed a combined exposure to the U.S. subprime mortgage market of almost $13 billion.
The news raised fears that Asian banks, generally risk averse following the Asian financial crisis 10 years ago, were more vulnerable to the crisis as investors had thought.
Stock markets tumbled from Sydney to Seoul in response but later on Friday, European and U.S. stocks were firm.
"If there is a normalization in the markets a rate hike is still possible. If not the ECB will wait with the next step," said a senior official at a euro zone national central bank.
The credit squeeze on financial markets has worsened since August 2, when ECB President Jean-Claude Trichet said "strong vigilance" was needed on inflation, language the ECB has used the month before all rate increases in its current cycle.
Many analysts assumed the ECB would tighten policy again in September after it put out a statement this week on a money market tender which also highlighted Trichet's August 2 stance.
That interpretation was wrong, the national central bank official said. Japan's top financial diplomat said the worst of the market adjustment was over, although it would linger for some time, and there was no wider economic danger.
"(Volatile markets) should not negatively affect the economy," Naoyuki Shinohara, vice finance minister for international affairs, told reporters.
US, EUROPE CALMER
The Federal Reserve refrained from any open market operations, only the second day it has not pumped money into the financial system since a credit squeeze began two weeks ago.
Earlier this month investors were convinced that the Fed would have to make an emergency cut in benchmark interest rates before its next policy meeting on September 18 to free up liquidity as financial institutions had increasing difficulty accessing credit lines.
But a reduced flow of news about struggling mortgage companies and a faltering commercial paper market, along with moves by the Fed to inject money into the financial system, has put expectations for an emergency Fed cut on the back burner.
"It's a couple of days of decent stabilization," said George Goncalves, Treasury strategist at Morgan Stanley in New York. "We are slowly seeing signs of improvement in the (asset-backed commercial paper) market. It's time healing all wounds."
Despite doubts about tighter euro zone monetary policy, Germany, France and Italy were upbeat about the crisis stemming from defaults on U.S. mortgages given to people with weak credit histories, which have hit banks around the world.
French Economy Minster Christine Lagarde said France's banks faced no substantial risks from exposure to subprime loans. "The situation in the banking sector is absolutely healthy," she told a news conference.
BNP Paribas (BNPP.PA) said it would reopen next week three investment funds frozen this month because U.S. subprime market volatility meant it could not value some assets.
German Finance Minister Peer Steinbrueck was equally sanguine. He said there was no evidence his country's banks faced further problems, or that the liquidity crisis was wreaking wider economic damage.
"From today's perspective we have in Germany no indication that we're going to see further shocks in the banking sector," Steinbrueck told the Rheinische Post daily in an interview. "The experts don't expect any spillover onto the real economy."
Last month, German small business lender IKB (IKBG.DE) almost folded before banks stumped up an 8 billion euro ($10.8 billion) credit line. A group of banks also gave credit of more than 17 billion euros to help publicly-owned lender SachsenLB survive the credit market crunch.
Prime Minister Romano Prodi chipped in, saying Italy's banking system was unscathed.
"The 'tight-fisted' policy characteristic of our banks in handing out credit has had its advantages," Prodi was quoted as saying by Il Messaggero newspaper.
SOME CALM RESTORED
Central banks have restored some semblance of calm by pumping money into wobbly credit markets. Despite Friday's tumble, Japan's Nikkei .N225 ended the week with its biggest weekly percentage gain since 2002, for example.
"Sentiment has improved compared to where it was a week or two ago but the subprime issue will keep bubbling away under the surface," said Michael Heffernan, senior client advisor and strategist at Austock Stockbroking.
But markets wobbled after Countrywide Financial CFC.N chief Angelo Mozilo, who heads the biggest mortgage lender in the United States, told Reuters the U.S. housing downturn was likely to lead the country into recession.
"I've seen this movie before and the ending of the movie always ends up in some form of recession," he said.
Bank of America (BAC.N) has invested $2 billion in Countrywide, a move aimed at restoring trust in both the ailing lender and the market.
