Oct. 13 (Bloomberg) -- Australian funding costs and Asia- Pacific bond risk dropped after Prime Minister Kevin Rudd guaranteed bank deposits and European leaders promised to shore up lenders, seeking to unlock frozen credit markets.

The premium charged to exchange floating- for fixed-rate interest payments in Australia for one year shrank 71 basis points, or 0.71 percentage point, to 86 basis points as of 2:33 p.m. in Sydney, the biggest decline since 2000. The European measures included a pledge to guarantee until the end of 2009 bank debt issues with maturities up to five years and permission for governments to buy bank stakes.

``The European and Australian government actions will go a long way in preventing a broad-based systemic collapse and we may be lucky enough to see funding pressures ease,'' said Adam Carr, senior economist in Sydney at ICAP Australia Ltd., a unit of the world's largest inter-bank broker. ``The problem is we haven't seen the full impact of the growth slowdown, so we can't be confident spreads won't widen going forward.''

Rudd, U.S. Treasury Secretary Henry Paulson and European leaders over the weekend pledged to prevent financial systems from collapsing by using government funds to back major banks. Lending seized up and funding costs soared after Lehman Brothers Holdings Inc. filed for bankruptcy last month, shattering banks' confidence that credit they provide will be repaid.

The Markit iTraxx Australia index, a benchmark for protecting bonds against default, was quoted 65 basis points lower at 200 in Sydney, Citigroup Inc. data show. The Asia index of 50 investment-grade borrowers outside Japan plunged 55 basis points to 295. The iTraxx measures of credit risk started trading in 2004. Declines indicate perceptions of creditworthiness are improving.

RBA Adds Cash

Australian banks' borrowing costs fell after the Reserve Bank of Australia pumped A$2.85 billion ($1.9 billion) into the financial system, according to a gauge that measures the availability of funds. The difference between the rate banks charge each other for three-month loans and the overnight indexed swap rate stood at 97 basis points from 112 points on Oct. 10. The gap has averaged 47 points this year.

Australian stocks jumped after Prime Minister Rudd guaranteed bank deposits and European leaders said yesterday that governments will guarantee all deposits with institutions for the next three years.

In Hong Kong, where the government has held off from guaranteeing bank debt, interbank lending rates stayed at the highest in a year. Hong Kong's three-month interbank offered rate climbed 3 basis points to 4.44 percent and the one-month rate fell 10 basis points to 4.89 percent at the 11:15 a.m. fixing.

Singapore's three-month dollar loan rate increased for a fifth day, rising more than 5 basis points to 4.79 percent, according to the 11 a.m. fixing by the Association of Banks in Singapore. That's the highest since Dec. 27, 2007.

NAB Cuts Rates

National Australia Bank Ltd., the nation's largest lender, surged 9.8 percent and BHP Billiton Ltd., the world's biggest mining company, gained 6.5 percent. National Australia cut interest rates on fixed home loans by as much as 160 basis points.

The RBA added funds through so-called repurchase agreements after estimating money markets would have a deficit of A$1.05 billion today. Banks increased deposits held at the RBA by A$700 million on Oct. 10 to A$9.07 billion, the central bank said today on its Web site.

European leaders agreed to guarantee new bank refinancing and use taxpayer money to keep distressed lenders afloat, trying to stop the worst rout in Europe's stock markets in two decades and stave off a recession.

The move ``marks an unprecedented regime change from last year, with governments now underwriting financial risk across the G-7,'' said Lena Komileva, an economist at London-based Tullett Prebon Plc, the second-biggest broker of transactions between banks. ``This should bring banks' default risk and interbank lending costs toward the risk-free government benchmarks.''

Lending Rates

Lending rates climbed this year even as the Federal Reserve, European Central Bank and other central banks through Europe and Asia pumped more than $1 trillion into the global financial system and slashed borrowing costs in a coordinated effort to stimulate lending and counter a seizure in credit markets.

``There's a real problem in getting people to put their money to work,'' Robin Marshall, director of international fixed income in London at NCL Smith & Williamson, which oversees about $20 billion in assets, said before the agreement among European leaders. ``The fear of counterparty risk is so intense that the only bank prepared to lend at the moment is the central bank.''

The three-month dollar London interbank offered rate ended last week at 4.82 percent, the highest since Dec. 27, as banks hoarded cash to weather the credit crunch, according to data compiled by the BBA.

Libor High

Libor, set by banks in a daily survey by the British Bankers' Association at about noon in London, determines rates on everything from company lines of credit to home loans. Member banks provide estimates on how much it would cost to borrow in 10 currencies for periods ranging from a day to a year.

Credit-related losses may almost triple to $1.7 trillion, according to New York-based JPMorgan Chase & Co., the biggest U.S. bank by deposits. Financial institutions lost or wrote down $633 billion since the start of last year amid the worst U.S. housing slump since the Great Depression, according to data compiled by Bloomberg.

The difference between what banks and the Treasury pay to borrow money for three months, the so-called TED spread, is 4.64 percentage points, the most since Bloomberg began tracking the data in 1984, and up from 2.01 percentage points on Sept. 15, the day Lehman filed the biggest bankruptcy in U.S. history.

To contact the reporters on this story: Garfield Reynolds in Sydney at greynolds1@bloomberg.net.

Last Updated: October 12, 2008 23:52 EDT