Posted by: Dirk | September 25, 2008

LIBOR out of touch with reality

The LIBOR (London interbank offered rate) is the rate of interest at which banks lend money to each other. A friend of mine who works in a financial institution told me that it is seriously out of touch with reality. At the LIBOR, no bank can get money from other banks. There’s a premium to be paid. This is strange, since many banks give out loans to clients and make them pay LIBOR + a premium. If banks understate the LIBOR, they will cut their own revenues. Apparently, there is still a reason to do it. Bloomberg reported on this 4 month ago:

Banks routinely misstated borrowing costs to the British Bankers’ Association to avoid the perception they faced difficulty raising funds as credit markets seized up, said Tim Bond, a strategist at Barclays Capital.

“The rates the banks were posting to the BBA became a little bit divorced from reality,” Bond, head of asset- allocation research in London, said in a Bloomberg Television interview. “We had one week in September where our treasurer, who takes his responsibilities pretty seriously, said: `right, I’ve had enough of this, I’m going to quote the right rates.’ All we got for our pains was a series of media articles saying that we were having difficulty financing.”

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Responses

  1. […] so irritated that they report the rate at which they lend money to each other (the LIBOR, see my last post). There seems to be a certain level of stress in the system, and the ECB has injected liquidity […]

  2. […] problem is that both LIBOR and EURIBOR might suffer from mis-represention of relevant interest rates by banks. Also, a change in the publics or banks liquidity preferences can influence both rates. […]


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