Banks use Libor to lend to each other
Libor reforms announced
Tuesday, 10 Jun 2008 11:25
The British Banking Association (BBA) has said the way the rate at which banks lend to each other is caluclated will be reformed.
The London Interbank Offered Rate (Libor) will be strengthened by reinforcing the scrutiny of its contributor banks and expanding the membership of its governing body and its panels, the BBA said.
The Libor is a borrowing benchmark, used not only by banks in the UK but by lenders all over the world.
A panel of 16 member banks report the current cost of borrowing and the BBA calculates an average interest rate on this basis, which other banks can use as a guide.
The rate has been consistently high since the credit crunch hit, making mortgages more expensive and frustrating efforts from the Bank of England to keep borrowing costs for consumers down.
But a Wall Street Journal study released in May suggested the process was flawed, as some banks had been underreporting the actual cost of borrowing during the credit crunch to make themselves look a less risky proposition than their rivals.
The BBA quickly responded by ordering a review of the way the Libor is set.
In its report today, the BBA said the reforms will include tighter scrutiny of the rates contributed by banks into the setting mechanism, so that any discrepancies in the rates must be justified by individual contributing banks; wider membership of the foreign exchange and money markets committee (the independent body which oversees the process); and increasing the numbers of contributors to some of the rate-setting panels.
BBA chief executive Angela Knight said: "BBA Libor has stood the test of time: it has been published on every business day since 1985 and is among the most transparent indices in the world.
"These changes will further strengthen BBA Libor and the confidence of its many users."
The BBA also said it would look into whether the historically transparent rate-setting mechanism is "stigmatising" contributors.
Making the contributing banks anonymous could prevent banks from the temptation to understate their own borrowing costs to make themselves look financially healthier than they are.
Last month, Barclays complained their stock price had fallen after the bank quoted the correct rate while other lenders massaged their figures down.
"Other banks tried to push their head above the parapet on occasions as well but with every attempt you were met with a lot of rumour and innuendo," Tim Bond, a strategist at Barclays Capital told Bloomberg TV.