Montreal, Canada

For the first time since early 2009 inter-bank lending rates are climbing among European banks as investors wager which institutions are safe and which are at risk of default. And three-month LIBOR or the London Inter-bank Offered Rate, is trading at 0.43% this morning – elevated compared to the 0%-0.25% Federal Funds rate, which it tracks. Less than a month ago, LIBOR traded at 0.30%.

As Mohamed El-Erian of PIMCO stressed this morning in an interview, “Liquidity doesn’t solve solvency risk.” Just because the Europeans are throwing a wall of money at credit risk doesn’t mean the solvency issue is a done deal.

The European Central Bank (ECB) and the International Monetary Fund (IMF) have orchestrated a €750 billion EUR bail-out for Greece and weaker peripheral euro-zone members, if necessary. The funds will also be used to commence sovereign bond purchases or quantitative easing.

Until credit markets are convinced that profligate spenders have cut spending and reduced their respective budget deficits, the EUR will remain on edge. Credit spreads or the difference between those sovereign markets in trouble (Greece, Portugal, Spain) compared to benchmark German bonds have narrowed from their highs last week but remain elevated.

To be sure, Spanish and Portuguese governments announced austerity measures this week to reduce spending. Markets thus far don’t believe those cuts are enough.

LIBOR, which is set by a panel of 16 banks, has recently witnessed a divergence again among institutions charging for short-term loans. Yesterday, Germany West Landesbank supplied the highest rate at 0.50% while HSBC offered the lowest rate at 0.37%, according to The Financial Times. “The range of quotes from banks for LIBOR is starting to blow out. LIBOR markets are once again the canary in the coalmine,” says MF Global’s John Brady.

Credit is now wagging the stock markets’ tail. Commodities are also feeling the pain as West Texas crude oil sits at $73.55 this morning and considerably off its high earlier this month north of $86 a barrel. The MSCI World Index and the MSCI Emerging Markets Index are now comfortably in the red again this year. Corporate bonds, mainly speculative credits, have been hit hard lately.

Unlike the last blast from credit more than 18 months ago, gold prices are rallying hard this month, up another $18 an ounce today. U.S. Treasury bonds are also on the fly as yields continue to decline. The U.S. dollar is also rallying this month against most foreign currencies – especially in Europe.

If three-month LIBOR busts through 0.50% over the next several days the odds suggest the first global stock market correction exceeding 10% since markets bottomed in March 2009. Credit wags the stock market. Watch credit.