Common Cents for July 13, 2012

One of the biggest stories in the financial world is the perceived scandal surrounding Barclay’s PLC and its supposed manipulation of LIBOR rates. As you may know, LIBOR stands for ‘London Interbank Offered Rate,’ and is essentially where British banks estimate they can borrow money for various time periods leading out to one year.

To make things a little simpler to understand, let me just give you the paragraph from Wikipedia which describes the calculation process:

“Libor is calculated and published by Thomson Reuters on behalf of the British Bankers’ Association (BBA) after 11:00 AM (and generally around 11:45 AM) each day (London time). It is a trimmed average of interbank deposit rates offered by designated contributor banks, for maturities ranging from overnight to one year. Libor is calculated for 10 currencies. There are eight, twelve, sixteen or twenty contributor banks on each currency panel, and the reported interest is the mean of the 50% middle values (the interquartile mean). The rates are a benchmark rather than a tradable rate; the actual rate at which banks will lend to one another continues to vary throughout the day.”

As you can tell, LIBOR is: 1) a private sector endeavor, as the BBA is a trade association and not a government entity, and; 2) it is an estimate, and not a hard quote, and; 3) the highest 25% rates and the lowest 25% are presumably not in the calculation process, and; 4) it is meant to be a benchmark, as opposed to an actual tradable rate, and; 5) there are different rates for different currencies since borrowing rates will vary from country, and: 6) importantly, is not a perfect science.

To read more, if you dare… July 13, 2012 Common Cents