* Overnight lending rates ease on coordinated rate cuts
* Sterling rates also capped by sweeping UK bank plan
* But term funding still costly; 3-mth dlr near recent highs
(Updates with reaction to coordinated rate cuts Libor fixes)
By Jamie McGeever
LONDON, Oct 8 (Reuters) - Overnight interbank lending rates fell on Wednesday on emergency coordinated interest rate cuts around the world, but the cost of borrowing longer term remained stubbornly high.
The interbank cost of overnight borrowing in dollars, euro and sterling fell toward central banks' new target rates of 1.5 percent, 3.75 percent and 4.5 percent, respectively.
Monetary authorities in the United States, euro zone and Britain each slashed benchmark rates by half a percentage point, as did the Canadian and Swedish central banks, while China and Switzerland also cut rates.
The joint action to calm panicky markets followed the announcement of sweeping measures from Britain to support its banks, including a capital injection of up to 50 billion pounds.
The rate cuts came after the British Bankers Association's daily fixing of London interbank offered rates (Libor), which had shown a fall in overnight euro and sterling rates but sharp jump in overnight dollars.
Three-month borrowing rates, or so-called "term" funding, remained stubbornly high across all three currencies at the Libor fix, reflecting the continued reluctance of banks to lend.
The spreads of Libor over anticipated policy rates measured by average Overnight Index Swaps widened, as investors priced in further broad-based policy easing in the coming months.
Getting banks to open up the lending taps will take time. But the immediate impact of the coordinated rate cuts and extensive central bank liquidity injections into money markets should put a cap on rates.
"This hasn't lowered Libor rates yet but I expect that will come," said Ciaran O'Hagan, rates strategist at Societe Generale in Paris. "We will see some narrowing in Libor/OIS spreads in the short term."
TURNING POINT?
In the wake of the coordinated rate cuts, interbank overnight dollar deposit rates were indicated as low as 1.25 percent , but were last around 3.5 percent.
The Libor fix for overnight dollar funds, before the central bank rate cuts, was fixed at 5.37500 percent .
Overnight sterling deposit rates were last indicated around 4.5 percent, lower than the 5.83125 percent Libor fix .
Overnight euro deposits fell to as low as 3.74 percent , according to Reuters data. The Libor fixing was 4.35000 percent .
Interbank deposit rates are merely indicative prices and not necessarily the rates at which banks actually lend to each other. The once-a-day Libor fix is also an indicative rate, but is a global reference point for trillions of dollars of contracts for financial, corporate and household borrowing.
The three-month dollar Libor/OIS spread blew out to 320 basis points from 294 basis points on Tuesday, euro Libor/OIS spreads widened to 165 basis points from 154 basis points and sterling to 200 basis points from 190 basis points.
All were the highest in several years. But some analysts said Wednesday's coordinated monetary policy response might mark a turning point.
"We expect that financial spreads have peaked and the worst phase of the financial crisis is coming to an end," said Lena Komileva, G7 strategist at Tullet Prebon.
"A recession will stand in the way of a strong risk rally. But a depression looks increasingly unlikely and this month should mark the low point of the risk cycle."
For more on Wednesday's Libor fixing, see [ID:nL837191].
Earlier, the European Central Bank's auction of $70 billion in one-day dollar funds was oversubscribed almost twofold.
Alongside the UK government's bank action, the Bank of England said it was expanding and extending its Special Liquidity Scheme to offer at least 200 billion pounds liquidity to financial institutions against a broader range of collateral. For more, see [ID:nL8586784].
"There is no doubting that this is big. We are very impressed by the scale of this," said David Keeble, head of rates strategy at Calyon. (Editing by Mike Peacock)
