* Messy Cypriot bailout has limited impact on money markets
* Capital outflows show liquidity tight -CrossBorder Capital
* Risk of further stress remains -analysts
By Ana Nicolaci da Costa
LONDON, April 2 Money markets largely braved
Cyprus's bailout saga last week but an apparent tightening in
liquidity conditions may make them less resilient to future
flare-ups in the euro zone debt crisis.
The gap between the "risk-free" overnight lending rate and
the expected cost of interbank lending rose to its widest since
August last week as investors worried the messy bailout could
spread contagion by raising fears that a precedent had been set
in penalising bank depositors.
That gap, a measure of counterparty risk, has since retraced
some of its rise, but some analysts say the risk of renewed
stress in money markets remains.
"People fear that the contagion effect is not a direct one,
as you would have seen in earlier crises, but more indirect
through capital outflows or wholesale funding shortfalls for
banks and other peripheral countries," Benjamin Schroeder,
strategist at Commerzbank, said.
The fact that banks had reduced their dependence on the
European Central Bank for funding since it injected 1 trillion
euros into the financial system in late 2011 and early 2012 was
a sign banks were not lacking cash, he said.
But they remained reluctant to lend to each other and
another liquidity squeeze for weaker peripheral banks could not
be ruled out, he said.
The FRA/OIS spread, which measure the premium
lenders demand when making loans to other banks, rose as far as
19.9 basis points last week for contracts due to start in
September. It has since fallen back to 14 bps but that is up
from 10 bps in the beginning of March.
Data from CrossBorder Capital, an independent financial firm
that specialises in analysing global liquidity flows, shows
liquidity conditions are already getting tighter.
The euro zone saw its biggest capital outflow in March since
late 2011 - around the time of the ECB liquidity injection.
Financial institutions and governments took a net $175
billion worth of bonds and stocks, on an annualised basis, out
of the euro zone in March - the biggest outflow since $201.4
billion in December 2011, according to the data.
Capital has been flowing out of the bloc since July 2011,
the data showed.
"Liquidity conditions are deteriorating fast and that's
backed up by the fact that if you look at net financial flows
into the euro zone they are basically trending lower. The Cyprus
situation clearly hasn't helped," Michael J Howell, CrossBorder
Capital's managing director, said.
He said the trend, along with a reduction in the size of the
ECB's balance sheet as banks repaid ECB crisis loans, was
reducing the amount of liquidity in the financial system.
That could lead to a funding problem in the region if and
when the next flare-up in the crisis comes, he said.
"What you've got is a series of negatives which are weighing
on the funding situation in the euro zone, which means if there
is any slight wobble in the market over the next two or three
months, you are going to see an upward spike in (interbank
lending) rates," Howell added.