Farewell to LIBOR
Since its origination in 1986, the London Interbank Offered Rate (LIBOR) has been a standard benchmark for short-term rates. LIBOR is reset daily based on submissions from a collection of contributing banks. These banks submit yields at which they believe they could obtain short-term loans from other banks. The average rate sets the benchmark for floating rate securities and other financial transactions.
During the financial crisis, allegations of attempted LIBOR influence by submitters arose. Since the majority of LIBOR submissions are based on judgments, as opposed to actual transactions, the process is vulnerable to manipulation. It became front page news when it emerged that as early as 2003, banks were submitting altered daily data to portray a false picture of their financial health. The reduction in actual transaction activity was believed to provide the opportunity for manipulation.
In the summer of 2017, Andrew Bailey, CEO of the Financial Conduct Authority in London, announced plans to phase out LIBOR by the end of 2021. The Alternative Reference Rates Committee (ARRC), a group of banks convened by the Federal Reserve, was tasked with finding a LIBOR alternative. A plan released in December 2017, directed the Federal Reserve Bank of New York to produce three new reference rates based on repo transactions from various clearinghouses. The intent was for the options to reflect the actual cost of short-term secured borrowing in strong, highly liquid markets.
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