For about 50 years, the London interbank offered rate has helped determine the cost of borrowing around the world.
Libor, derived from a daily survey of bankers who estimate how much they would charge to lend to each other, was simple, effective, ubiquitous, and seemingly reliable.
As markets evolved, the trading that helped inform those estimates dried up. In the wake of the 2008 financial crisis, regulators discovered that the banks trusted to set the rates underpinning hundreds of trillions of dollars of financial assets had been manipulating them to their advantage.
For more than three years, policymakers around the globe have been developing new benchmarks to replace Libor by the end of 2021. The challenge has been to maintain Libor’s accessibility and functionality with an alternative that’s more trustworthy. That’s easier said than done, and some countries and regions have made more progress than others.
By The Numbers
$400 TrillionThe estimated value of financial contracts around the world tied to Libor as of 2018, according to the Bank for International Settlements
14The number of months until regulators will stop compelling global banks to submit quotes used to calculate Libor’s daily fixings
5The number of currencies for which Libor rates will officially be discontinued. Policy makers in the U.S., U.K., euro zone, Switzerland and Japan are all in the process of shifting to alternatives. Other countries are also reforming their own Libor-like benchmarks
Why It Matters
Libor has been dubbed “the world’s most important number” for good reason.
It’s used to set interest rates on a giant swath of financial assets, from floating-rate notes and collateralized loan obligations to complex derivatives. But it’s not just Wall Street that depends on the benchmark.
Everything from mortgages, student loans and credit card rates are tied to Libor as well.
That makes its replacement one of the most significant developments in financial markets, well, ever.
Officials around the world are creating and promoting a slew of alternative rates. Investors and corporate treasurers are re-writing financial contracts to ensure that millions of deals don’t eventually turn into a chaotic, lawsuit-riddled mess. And bankers are reviewing portfolio exposure and retooling trading systems to try to ensure a smooth transition.
Despite the coronavirus pandemic causing causing a number of near-term goals and milestones in the transition to be pushed back, there’s little indication global regulators are considering delaying the benchmark’s demise.
With time running out before Libor is phased out at the end of 2021, there are still significant hurdles that need to be overcome to make sure it goes off without a hitch.